In this article we will discuss the main differences of two popular types of business entities: the S Corporation (S Corp) and the Sole Proprietorship.
The main difference between an S corp and a sole proprietorship is the separation of the individual from the business.
Sole proprietorships do not provide any separation of personal and business assets and therefore can leave you exposed to more personal risk if anything were to happen to your business.
On the other hand, forming an S corporation (S corp) creates a whole new legal entity for your business, creating separation between your personal assets and business assets.
Due to the separation of personal and business assets, S corporations allow for much more protection if something were to go wrong within the business.
Sole proprietorships do not require any paperwork to set up and most business owners do not even realize when they are classified as a sole proprietor because the title is automatically earned once a person decides to go into business by themselves without forming a corporation or creating a limited liability company.
While achieving S corp status is not overly complicated, it is definitely more involved then simply doing nothing (as is true with sole proprietorships).
In order to gain S corp status your must first form a corporation within your desired state and then you need to file Form 2253 with the IRS in order to be taxed as an S corp.
Sole proprietorships and S corporations are both considered "pass-through" entities, meaning that you would report the income you earned or losses you incurred on your personal tax return.
However, these entities differ in that S corporations are not subject to self-employment taxes on all income.
Sole proprietorships must pay self-employment taxes, which consists of Social Security and Medicare, on all reported income.
S corporations, however, allow profits to be dispersed through dividends (or distributions) rather than income, but there's a catch: you can't designate all of your income as "distributions".
If you are also the sole employee of your S corp you must legally treat yourself as an employee and pay yourself a reasonable salary for the work you completed and this salary is still subject to self-employment taxes.
An S Corp (S Corporation) is a type of business entity that allows the owner to separate his or her personal assets from the assets of the business.
In other words, an S corp acts as a completely separate legal entity from the owner and is able to pay out dividends to its shareholders.
S corporations are created by forming either a corporation or an LLC and electing for taxation status as an S corp by filing Form 2253 with the IRS.
These business entities are highly regulated and require you to keep extensive records of stuff like corporate bylaws and shareholder meetings.
You should create an S Corp for your business if:
A sole proprietorship is a type of business entity that includes anyone running a business that has not incorporated or formed an LLC.
You should structure your business as a sole proprietor if:
This question is completely subjective and can only be answered on a per-business basis as there are many advantages and disadvantages to each type of business entity.
In general, a sole proprietorship should become an S corp once your business begins growing and taking on more risk.
A sole proprietor is not eligable to file as an S corp. You are required to incorporate your business before electing to be taxed as an S corp.
There are many advantages and disadvantages to both types of business entities and depending on your current situation you may benefit more from choosing one over the other.
Unfortunately, there can be no definitive answer as to which business structure is best due to each situation having its own unique challenges.
Noon Bookkeeping is an outsourced bookkeeping and accounting solution for business owners consisting of a team of accountants and certified, expert bookkeepers ready to help you organize the finances of your business.
We can handle all of your bookkeeping in one place so that you can focus on running and growing your unique business knowing that we've got your finances handles.
Learn more about how Noon can help you take control of you finances today.
Just fill out the form below and we will set up a call to get to know you and your business.