Choice of Legal Entity

Selecting a form of legal entity for a business can be a complex decision which is usually based on the type of business, the source of financing(present and future), the type of ownership, and the expected profitability of the business, among many other considerations. The following information should be used merely to familiarize yourself with the various choices and should not be used to select a form of entity without further consultation with counsel.

C-Corporation – This is the standard type of entity most widely used in the United States, and is used primarily by publicly held businesses and most large companies. The net income of a C-Corporation is taxed at the corporate level and losses are carried on the corporation’s books to be applied against future net income, with certain limitations. Shareholders in a C-Corporation are generally protected from any liabilities in excess of their investment. C-Corporations can have an unlimited number of shareholders and can have many classes of stock. Distributions to C-Corporation shareholders are not deductible to the corporation, but are generally taxable to the shareholder. C-Corporations can also select a year-end other than December 31st.

S-Corporation – This type of entity is used primarily by small, closely-held businesses. The net income of an S-Corporation is allocated to all shareholders based upon their ownership percentages and is taxed at the shareholder level (there are certain exceptions for state taxes). Likewise, the net losses are also allocated to shareholders and may be deducted at the individual level, with certain exceptions. Shareholders in an S-Corporation are generally protected from any liabilities in excess of their investment. S-Corporation may have no more than 75 shareholders, and those shareholders cannot be other corporations or non-resident aliens, among other limitations. S-Corporations can have only one class of stock and can only have a calendar year-end (December 31st).

Partnership or Joint Venture – Partnerships may be either limited partnerships or general partnerships. Partners in a limited partnership are protected from liability in excess of their investment in the entity, whereas partners in a general partnership (and general partners in a limited partnership) have unlimited liability. Partnerships have no stock, and partners are taxed on their respective shares of net income or losses at the individual level. Partnerships have calendar year-ends and pay no Federal or State income taxes.

Limited Liability Company (“LLC”) – LLC’s may be treated either as S-Corporations or Partnerships. When treated as a corporation, the same general rules that apply to S-Corporations apply. When treated as a partnership, the same general rules that apply to partnerships prevail, however, all LLC members are generally protected from liability. Unlike corporations or partnerships, LLC’s generally pay fees (up to $7,785 in the State of California) based upon gross receipts.