Business Formation
To start a for-profit business, you first need to decide on a business entity. The form of business you choose will decide what forms you will need to file and what taxes to pay.
Sole Proprietorship
A sole Proprietorship is an unincorporated business with the simplest tax filing requirements. The business doesn't exist apart from the owner. All liabilities of the business are personal liabilities.
It's filed on Federal form 1040, Schedule C. Sole proprietors pay Self-Employment (SE) tax on their net earnings besides federal and state taxes.
A sole proprietorship is easy to start. Simply obtain any licenses required for your business (such as a sales tax permit), and register a fictitious name (DBA), if you want to use a name other than your last name. EIN (employer identification numbers) is not required to obtain for sole proprietors with no employees or contractors. However, it could be beneficial to have EIN for business purposes (opening a business account, working with vendors, etc.).
EIN is required for all other business types below.
Partnership
A partnership is an unincorporated business with two or more business partners. A partnership files form 1065 and pass through all income and losses to its partners on Schedule K-1 forms. Partners pay SE tax. Partners are not employees of the business and do not receive W2 forms. There are different types of partnerships. The most common one is a general partnership. Partnerships are very flexible in the way they can split income or losses between partners.
Limited Liability Company (LLC)
LLC is a very common business entity in the USA, created under state law. LLC is attractive for business owners because it provides liability protection and has fewer formalities compared to corporations.
Single Member LLCs (SMLLC) file Schedule C on the federal level by default, the same way sole proprietors do.
Multi-member LLCs file 1065 by default, the same way partnerships do.
However, an LLC can decide to elect to be taxed as C-corporation or S-corporation. A special form needs to be filed to do the election.
When choosing an LLC, keep in mind that LLCs are required to file information statements regularly until the LLC is dissolved. CA requires Statement of Information (SOI) to be filed biannually. States might also require paying a minimum tax (and/or fee) annually by all LLC owners. For instance, CA requires form 568 filed with a minimum franchise tax of $800 every year.
Furthermore, some professions/business types can't create LLCs. For instance, CA doesn't allow creating LLCs for attorneys, layers, and CPAs. These professionals are required to be either sole proprietors or a professional corporation. Unlike some other states, CA doesn't have professional LLCs.
Corporation
A corporation is a separate business entity under state law that has similar liability protection, but more formalities compared to an LLC. A corporation has a board of directors and holds annual meetings (corporate minutes), that must be documented. C corporation can go public and register with SEC (Security and Exchange Commission) to offer its stocks on a stock market.
A corporation is taxed as a C corporation at the federal level by default. C corporation officers must be on payroll and have a "reasonable compensation". C-corporation files form 1120 and distribute dividends to its shareholders. The profits of C corporation are taxed at the federal level, the dividends are taxed at the shareholder level. This creates a double tax. A corporation created under state law can elect to be taxed as an S-corporation to avoid double taxation. Corporations are taxed at a certain percentage at the state level. CA requires a minimum tax franchise of $800 similar to LLCs. Corporations also required to file information statements.
S-Corporation election
S-corporation (Subchapter S Corporation) is not an entity under state law. S-corporation is a federal election. LLC and corporation can be taxed as S-Corporation if elected so. S-corporation election provides tax benefits because S-corporation income is passed through to shareholders on the Schedule K-1 form and Self-Employment tax doesn't apply to the net income.
There are certain requirements to be an S-corporation:
The s-corporation must be domestic.
Allowed shareholders: individuals (residents for tax purposes), certain trusts, and estates.
Not allowed shareholders: non-resident aliens, partnerships, or corporations.
Maximum number of shareholders: 100
Only one class of stock is allowed.
Can't be ineligible corporations such as insurance companies, certain financial institutions, etc.
IRS requires S-corporation officers to be on payroll and have a “reasonable compensation”.
CA requires a minimum franchise tax of $800 similar to other entities. SOI is required.
LLC, Corporation/PC formation
Dissolution, Revival, Conversion
Annual/Bi-annual Statements
Sole-Proprietor DBA
EIN
S-election, C-election
Sales Tax License
General Business License