Reasons to Incoporate
The main reasons why businesses decide to incorporate is to avoid personal liability for the debts of the business. Without incorporation, if a business is sued successfully, the owner's personal assets may be used to pay the judgment. However, incorporation requires filing forms with the state, paying filing fees, and in some cases, paying additional business taxes. Hence, smaller businesses may determine that limited liability is not worth the extra fees and responsibilities.
A sole proprietor is someone who owns an unincorporated business. Generally, you do not need to register the business with the state in order to operate a sole proprietorship. As a result, you avoid the time and fees normally associated with business formation. You are responsible for maintaining records of your finances, and paying income tax, self-employment tax, and in some cases, excise tax. As the owner of a sole proprietorship, you are personally liable for the debts of the business.
A partnership is similar to a sole proprietorship, except that two or more people share ownership. In most states, a general partnership is automatically formed when two or more individuals enter a business transaction together, and no formal filing with the state is required. In a general partnership, the owners remain liable for the debts of the partnership. In contrast, a limited liability partnership is created upon filing articles of organization with the state, and the partners are not personally liable for the debts of the business. In either partnership, you should draft a partnership agreement to determine how the business will be managed, and how profits will be distributed. The partnership may be responsible for excise tax and employment tax. Owners of a partnership are responsible for income tax, self-employment tax, and estimated taxes.
Limited Liability Company
A limited liability company (LLC) is considered a hybrid between a partnership and a corporation. An LLC may be formed by one or more people, and provides limited liability for the debts of the business. Generally, an LLC is formed by filing articles of incorporation with the state with the appropriate filing fee, which will vary. Unlike a corporation, the LLC is not taxed as a separate legal entity. Instead, it is taxed like partnerships and sole proprietorships, in that the income and the tax obligation "pass through" the LLC to the owners. However, some states may require LLCs to pay an annual business entity tax. Owners of an LLC are responsible for income tax, self-employment tax, and in some cases, excise tax.
Converting Business Structure
As your online business grows, you may decide to change your business structure. For example, as your profits increase, you may have enough income to cover the additional filing fees and take advantage of an LLC's ability to protect your personal assets. To change business structure, you will have to start from the beginning with business registration. To form an LLC, you will file articles of incorporation with the state. You may be required to apply for a new Employer Identification Number (EIN) from the IRS. Further, some states will require you to reapply for licenses and permits after you change your business structure.