One of the most fundamental questions I’m asked by clients is how to organize their business. For most people I ask in return, “How do you want to be taxed?” This question usually ends up clearing the path for any uncertainties, but there are still a few what-ifs to consider. Whether you have multiple owners, or it’s just you, there are a few things you should know about business formation.
- First step: Register with the Secretary of State. To register, you can use either your personal social security number (SSN) or an employer identification number (EIN) or tax identification number. If this is your first time incorporating a business, you can start with your SSN, then after you’re incorporated, obtain an EIN from the IRS.
And although it may seem counterintuitive, it’s a best practice to obtain an EIN, even if you have no employees. This number will go to your clients and vendors, and other people you’re working with, so it’s safer for you to not give out your personal SSN.
- Decide how you want to get paid and pay taxes. Whether you’re a solopreneur or have multiple owners, you can register as a limited liability company (LLC), S Corp or C Corp.
Essentially, if you want to draw a salary and only pay tax on your salary, not the business, an LLC would be the best choice. This is called pass-through taxation. The burden with an LLC is that you have to pay quarterly estimated taxes.
As an S Corp or C Corp, you can be taxed as if you’re just an employee of the corporate entity. So you would still pay income taxes like an employee, and the business itself would pay tax.
It comes down to how you want to get paid and how you prefer to pay taxes. I recommend speaking with your CPA about which option is best for you. If you do not yet have a CPA, I have resources to get you connected.
- Create your foundational documents. When you have multiple shareholders or owners, you’ll want some documentation for how the business will be structured. This could be a written agreement, a member control agreement, or an operating agreement. These documents set the basic governing rules on who owns what and how much is owned. It also sets forth the rules on how the company is going to be run. These documents fend off arguments down the road.
Solopreneurs may also need some foundational agreements. If your business necessitates dealing with clients, customers, or vendors, it could be beneficial for you to have a standard client agreement. As a solopreneur, it’s essential to let your own clients and vendors know what’s expected so you can limit your liability. These preventative measures set you up for success and limit the amount of issues you’ll have later on.
- Get creative with shareholder and ownership agreements. For companies with multiple owners, it’s important to decide up front how to deal with potential eventualities. For example, the initial tendency with two owners is to each own exactly half of the business. But that can cause problems later on. What happens if one of you wants to disband the company? What if you disagree about something important, how will the decision get made?
There are a number of ways to deal with the possibility of an ownership deadlock. For example, in a 50-50 split situation, you could name a third party such as a trusted business advisor or an attorney to be the deciding vote if you disagree about something. Another option is to have one person own 51 percent of the business and the other person or people could own 49 percent. For women-, veteran- or minority-owned businesses, this option could work in your favor to get contracts with entities that want or are required to do business with protected classes.
- Even as you’re forming the business, think about how you’re going to exit it. Although it seems counterintuitive to contemplate exiting the business just as you’re starting it, it’s wise to do so. Are you planning to build a business you can sell someday? Will you want to pass it on to family members? What happens if one of the owners wants to retire, becomes disabled, is unable to work, or even passes away? It’s very important to have a buy-sell agreement in place to take care of the company, the other owners, and that person’s family, as well.
Many solopreneurs don’t need an attorney to start a business in Minnesota. The process with the Secretary of State’s office is quite simple, and even getting an EIN from the IRS is pretty easy. For a new business with multiple owners, it’s probably a good idea to talk with a business attorney just to be planful about the many different possibilities.
If you’re wondering whether you should secure the services of a business attorney, give me a call. I’m happy to talk through the different options with you.