When is the right time to incorporate my small business?

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Many individuals start their small business as a sole proprietorship or as a simple general partnership with a friend. At some point, the question always arises, “Should I form an LLC or a corporation?” Minnesota has a variety of different types of corporate entities of which both a limited liability company and a corporation are included. Each has its advantages and disadvantages as far as taxes and management, but the general questions that should typically be answered when forming a company are as follows:

1. Liability Protection. Properly established and managed, a corporate entity can shield and protect personal assets from claims against the company. Different activities come with different risks, and some actions may be more prone to liability than others. For example, making greeting cards is probably not going to come with a lot of inherent risk, whereas manufacturing saw blades may.

2. Business Planning and Continuity. Particularly if you have a partner, or if you are doing estate planning, a business entity can help you plan for the next generation and/or sale of the business. The transfer of membership interest in an LLC or shares of stock of a corporation is usually much easier than transferring ownership of all of the various contracts and assets of the company. In addition, an agreement between the owners as to when and how a buy-out might occur is a critical aspect of any partnership or joint venture.

3. Tax Benefits. A conversation with your accountant is going to tell you if and when a corporate entity is going to assist you from a tax perspective. Some entities allow you to pass through the income of the company to your tax return, and other entities are taxed separately. In addition, corporate entities are allowed to deduct certain things that might not otherwise be permitted to the individual.

Keep in mind that with the benefits also come some negatives. The corporate formalities of the business entity will need to be followed, and that may entail advice from a competent attorney or other tax professional. The corporate entity will typically need an additional tax return prepared and filed on an annual basis. And, while the corporate structure provides a number of advantages, it also adds a layer of complexity to any of the transactions that you may encounter in your small business.

As with any article we write, this highlights some of the main issues in this topic. If you are seriously considering incorporating your small business, I would encourage you to contact our firm or other competent attorney to guide you through the process.

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