A friend who recently started his own engineering firm asked me for some advice on the different types of business structures that are available. While I’m no lawyer or CPA, I have played a role in incorporating four businesses in the past couple of years, so I probably know just enough on this subject to be dangerous. It’s not a simple topic and there are tons of books available to offer guidance. Here’s a quick and dirty guide.

When someone goes into business, choosing the right business structure is an important decision that impacts one’s exposure to liability and how taxes are paid, among other things. Therefore, it’s good to at least have a general understanding of the options available. The following are the most common types of business structures:

• Sole Proprietor. When you start a business, you’re a sole proprietor by default. In such a scenario, there is really no distinction between you and your business. Business income is taxed on your personal tax return. If a lawsuit is filed against the business, your personal assets are at risk. A sole proprietorship may be an acceptable option if your business stays small, engages in zero risk activities, and you have no significant personal assets to lose (house, car, savings, etc.). Hopefully, this is not you. 
• Partnership. A partnership is just like a sole proprietorship, only now the personal assets of two or more people are on the line. Yikes!
• Limited Liability Company.LLC’s are a terrific option for most businesses. They’re easy to setup and they protect the business owner’s personal assets from claims brought against the business. Like a sole proprietorship, taxes are paid through the owner’s personal tax return. Only problem is that professional service businesses, such as consulting engineering, cannot file as an LLC (at least in my home state of California). 
• Limited Liability Partnership. Same as an LLC, except ownership is shared by two or more people.
• C Corporation.Also known as a regular corporation, this is generally the realm of big business. A clear distinction is made between business assets and the personal assets of shareholders from a liability standpoint. Corporate taxes must be paid for the business as an independent entity on any earned profits, usually at a high tax rate. This corporate structure accommodates ownership transfer through the issuance of shares in the business. Corporations are a bit more complicated than LLC’s and LLP’s in that they require a greater amount of documentation, procedures, and record keeping.
• S Corporation. I generally recommend that smaller businesses file as an S Corporation. While similar to a regular corporation, a main distinction is that the corporation is treated like a partnership or LLC for tax purposes. Articles of incorporation must still be filed with the State and other restrictions apply when it comes to the distribution of profit amongst shareholders. In general, though, incorporating is fairly simple and involves a few easy steps. You can hire a lawyer or other professional to help you through the process but plan on dishing out $1,000 or more for their time. As an alternative, there are some great online sites that can help you through the process for less than $300 – check out bizfilings.com or legalzoom.com.

There is certainly a lot more information that one needs to know before taking the steps to incorporate their business. Nolo.com is a great resource for educating yourself on this topic.  Remaining selectively ignorant on the subject is generally not the best course of action and can leave your business exposed to some serious liability. The good news is that there are options available that are fairly easy to pursue. As we have learned in the engineering business during this downturn, technical expertise and effective project management are not enough to prevent legal claims from being brought against us. Having the right business structure in place is a smart way to help you sleep better at night.