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Business Formation - Corporations

Corporations are popular business structure for many types of businesses and for asset protection purposes. Corporations are separate legal entities from the shareholders or business owners. However, corporations must also hold regular board meetings. A corporation was the traditional business structure for most small businesses until limited liability companies were created in the 1990s. However, even with the popularity of limited liability companies, corporations still serve useful purposes and sometimes offer advantages over limited liability companies.

Corporations are unique because there are different types of corporation entities and different tax statuses for each of the corporation entities, each having its own advantages and disadvantages. It is always recommended that you speak with an experienced business attorney before setting up the legal structure for your corporation.

The process of establishing a corporation is called "incorporation" because Articles of Incorporation are filed with the State. After incorporation, the corporation may change its tax classification from a C-Corporation to an S-Corporation.

Taxation Status: C-Corporations (C-Corps):

(1) C-Corporations, which are also referred to as "C-Corps," are separately taxable legal entities. In other words, the corporation's income is taxed and the personal income of the business owner is taxed. This is often referred to as "double taxation." By default, corporations are taxed as C-Corporations unless it elects to be taxed as an S-Corporation.

(2) Larger corporations who issue stocks publically usually elect to be taxed C-Corporations.

(3) Unlike S-Corporations, S-Corporations may have more than 100 shareholders or owners.

(4) C-Corporations may offer more preferential treatment of self-employment taxes in comparison to limited liability companies.

Taxation Status: S-Corporations (S-Corps):

(1) S-Corporations, which are also referred to as "S-Corps," are not separately taxable legal entities. S-Corporations are considered "pass through" entities for Internal Revenue Service purposes and business owners may simply report the income on their 1040 at tax time. This type of corporate structure avoids the double taxation problem created inherent with C-Corporations. However, even with this pass through taxation, S-Corps must still file corporate tax returns.

(2) Smaller business who do not issue stocks publically usually elect to be taxed as S-Corporations

(3) Unlike limited liability companies and C-Corporations, S-Corporations cannot have more than 100 shareholders or owners.

(4) S-Corporations may offer more preferential treatment of self-employment taxes in comparison to limited liability companies.

Corporation Type: Close or Closed Corporations:

(1) Close or closed corporations are corporations that elect to operate without many of the traditional formalities required of corporations. In practice, many close corporations operate like a partnership or single-owner business. The corporation is "closed" in the sense that all of the corporation's shares are owned by a select number of individuals. The shares of stock issued by close corporations may be restricted to a limited number of individuals.

(2) Smaller business who do not issue stocks publically usually incorporate as close corporations and elect S-Corporation taxation from the Internal Revenue Service.

(3) If S-Corporation tax status is elected, the corporation cannot have more than 100 shareholders or owners.

Corporation Type: Professional Service Corporations:

(1) Some businesses may not incorporate as a typical corporation, such as lawyers, doctors, architects, engineers or accountants. However, professionals may utilize professional service corporations as a type of business entity.

(2) Professional service corporations are much like close corporations, but are limited to specific industries and services.

(3) If S-Corporation tax status is elected, the corporation cannot have more than 100 shareholders or owners.

Common Incorporation Mistakes:

(1) Corporations cannot protect business owners from professional malpractice, such as with physicians, engineers, attorneys and accountants, and some businesses are restricted to professional corporations. In other words, if you are in a certain business, a corporation offers no more personal liability protection than that of a sole proprietorship. However, professional corporations can still afford you some liability protection in areas that are not related to malpractice, such as contracts and leases.

(2) Many business owners fail to properly file the corporation's personal property tax return, which can result in the forfeiture of the business entity and possible liability exposure to the business owner.

(3) Using non-attorney online vendors to create a corporation. Most online vendors simply input the text you type into a form that is freely available from the Maryland State Department of Assessments and Taxation to create your corporation. While this will meet the bare minimum required to establish a corporate entity, the business owners are often missing out on extra protections afforded to them under Maryland law.

(4) Unnecessarily paying for resident agent fees. Every business entity, including corporations, is required to have a resident agent. While you are required to have a resident agent for your corporation, you may act as your own resident agent. As long as you are comfortable receiving legal documents on behalf of your limited liability company, you should seriously consider acting as your own resident agent. In addition, acting as your own resident agent does not invalidate any of the personal liability protections afforded to you by your corporation.

The Proy Law Firm can help you decide if incorporation is the right choice for your business:

Contact us as any time if you are thinking about establishing or revising your corporate business entity or corporation. It is important to start your new business off with the right type of business entity and the proper documentation in place.