What retirement business legal structure should you choose?
When you are first setting up your retirement business legal structure, you should look at the options available before getting your business license.
The choices in the USA are
- Sole Proprietorship
- General and Limited Partnerships
- Regular Corporation
- Limited Liability Company
Here are the differences. (Please consult an accountant and layers for legal advice.)
1. Sole proprietorship
This is the easiest form for your business if you are the sole owner. If you use your own name as in “John Smith’s Cleaning Services” you are ready to go as far as your business structure. If you want to use a fictitious name like “Sparkly Cleaning Services” you will only need to get a DBA (Doing Business As) certificate.
Advantages: All profits from the business go directly to you as part of your regular income. You can take all legitimate business deductions against your personal income and deduct a home office.
Disadvantages: The only real disadvantages are that you are personally liable* and a sole proprietorship might not look as impressive to some clients.
Costs: About the only cost you will have for forming a sole proprietorship will be for the DBA certificate which is about $50 to $75**.
Recommendation: This is perhaps the best solution if you are not looking for outside investors and don’t plan to sell the business later to someone else. A sole proprietorship is how most simple retirement businesses are structured. It is not hard to start a sole proprietorship retirement business.
2. General partnership
Many partnerships are formed because people have different skills. One partner can handle sales and marketing while the produces and organizes the office. You need to have a good partnership contract outlining who shares what expense and profits and who contributes what effort. You also need to include provision of an eventual breakup. A partnership is a legal entity that conducts business in its own name. It is highly recommended that a lawyer draw up the partnership agreement.
Advantages: If you need special skills, help, or money from someone else, this might be a way to share the business risk and work. There are no special requirements to forming a partnership. Someone can look after the business while you are away.
Disadvantages: Some states do require you to file a registration form. You will also need a DBA if you do not use your own names in the partnership. Be aware that a “bad” partner can run up debts that you might be responsible for. Partners are co-owners of the business and are equally responsible for debts and liabilities (as long as one partner is the general partner, others can have limited liability – consult your lawyer)*.
Costs: You will need to pay a lawyer from $500 to $1000 to draw up a partnership agreement. Start with an good book of partnership forms, modify them to suit your purposes, and then present them to your lawyer for a final version.
Recommendation: In general I believe it is hard enough to make a marriage partnership work, let alone a business partnership. Therefore my advice is to stay away from partnerships as a business structure for a retirement business. I suggest instead that you fund your retirement business with your own money or borrow it. If you need someone with special skills then subcontract for them.
3. Corporation (CORP. INC.)
A corporation is a legal entity which can be owned by one or more persons. It is the most common form for medium and larger businesses.
Advantages: The main reason for a corporation is to avoid personal liability**. Only the corporation is liable for its debts and for damages to others. Typically you can’t lose more than your investment in the corporation. Also some clients prefer doing business with a corporation rather than with a sole proprietor. You also can take a lot more business deductions as a corporation. It is the easiest form to use to attract bank loans and investors.
Disadvantages: The corporation is taxed separately on its own profits and if it gives any of the profits (called dividends) to you, then you will pay profits on that too. This is called double-taxation and can greatly limit your income. (However, you can form an S-corporation to avoid this.) A corporation is also harder to setup and requires more record keeping.
Costs: You can spend from $200 upwards to form a corporation. Look into a Do It Your Self corporation package.
Recommendations: As your retirement business grows or you find that you are losing customers because you are perceived as too “small”, then consider a corporation. If you are in a retirement business with high potential for liability or damage then consider a corporation.
4. Limited Liability Company (LLC)
This is a new legal structure. An LLC protects against personal liability like a regular corporation and also the pass-through of profits like an S-corporation or sole proprietorship. It is mainly used by professional like accountants, lawyers, medical doctors, and investment groups.Advantages: Better protection for personal liability than a sole proprietorship and a good structure for professional groups.
Disadvantages: This is a complicated structure and you need to check with a lawyer. Some courts have even held that an LLC owned by one-person does not offer limited liability.
Costs: From $1000 to $2000 for legal fees and filings.
Recommendations: An LLC is not recommended for the typical retirement business which I talk about in this web site. However, if you insists read more about forming your own LLC retirement business.
* Please buy the proper liability insurance. Just because you have a corporation does not mean that some lawyer might still go after you for personal liability.
** Of course EVERY business will need a business license, bank account, accounting system, and other expenses. Here I am just talking about the cost of setting up your business structure.
It is important to select the right business structure for liability and tax reasons. I suggest starting out with a sole proprietorship using you real name and buying the proper business liability insurance. Avoid a partnership unless absolutely necessary. As you grow, you can always cheap form a corporation or S-corporation. Use a good account software like QuickBooks.