If you own a small business, you have probably wondered at some point if you should incorporate. There can be advantages to incorporating, but there are also potential disadvantages. Here are some facts to consider.

Corporate Taxes

A corporation is a separate tax entity. A corporation files its own tax returns, separate from your own. Many states have a minimum tax for corporations, which means you pay some tax even if you show a loss. California’s minimum tax is currently $800 per year.

A major drawback to the corporate form is that net income may be taxed twice – once at the corporate level and again at the shareholder level when profits are paid out as dividends or liquidating distributions. There are strategies to avoid double taxation, and this means you will want to work closely with your tax and legal advisors during the initial setup and during ongoing operations of the corporation.

The corporate form does allow more fringe benefits, which are tax-free to the employee, to be deductible by the corporation. This would include benefits for an owner-employee, but this benefit alone may not warrant the expense of a corporate entity.

Bookkeeping

Corporate bank accounts and records must be kept separate from your personal accounts. You must maintain a separate set of books, as you will need a trial balance or balance sheet and income statement for your tax return preparation each year. Depending on your own bookkeeping skills, you may need professional bookkeeping assistance.

Raising Capital

A corporation may find that it is easier to raise capital because the business can do so by issuing stock. Selling shares may seem attractive because, unlike a loan, the monies do not have to be repaid. But remember that by selling shares, you are reducing your ownership percentage in the company.

Corporations can borrow and incur debt like any sole proprietorship. But if you need to borrow money for your corporation, it is not uncommon for the bank to require stockholders to personally guarantee the loans. Thus, if the corporation is unable to repay those debts, the stockholder’s personal assets could be at risk.

Asset Protection

A significant benefit of incorporating a business is to limit an owner’s liability. A lawsuit against the company generally cannot be satisfied by attaching the stockholder’s personal assets. Of course there are exceptions, so you should always discuss your plans with an attorney for the best structure to protect you and your assets.

Every business is different, and business owners should carefully consider the pros and cons of incorporating before doing so. There are many potential business forms, and the corporation is just one. Consult with your accountant and your attorney for help in determining the best business form to suit your needs.