How do you choose the right business structure for your startup?
These answers are provided by Young Entrepreneur Council (YEC), an invite-only organization comprised of the world’s most successful young entrepreneurs. YEC members represent nearly every industry, generate billions of dollars in revenue each year, and have created tens of thousands of jobs. Learn more at yec.co.
1. Start as an LLC
As an Orlando small-business attorney, I recommend starting as an LLC. It provides liability protection with minimal paperwork. Many early-stage startups prefer the flexibility of an LLC as they can easily change structures later.
For example, one client started as an LLC but converted to a C-corp to raise funding. The C-corp structure was more familiar to investors and allowed equity issuance.
The right choice depends on your goals. An LLC may suit launching, but a C-corp could facilitate funding or an exit. Consult experts to determine the best structure for your needs. The wrong choice could mean higher taxes, limited funding, or loss of control.
Structure matters, but focus first on viability. You can change structures but can’t undo not starting or quitting too soon. Build your business, then optimize the structure.
–Michele Diglio-Benkiran, Legal Counsel, PA
2. Consider Ownership and Investor Needs
The major question to ask yourself is if you’re building this as a wholly-owned business or if you’ll have partners along the way.
Most startups that follow the Silicon Valley playbook raise money from investors, like venture capitalists, and want to hire talented employees they can incentivize with equity ownership. At my company Deferred, we wanted to make sure we could grant employees equity so they can have an ownership stake in the business and participate in the upside as we grow. To make this work, nearly all venture-backed startups are C-corporations, and nearly always incorporate in Delaware due to the robust business case law.
However, if you’re starting a small business and you don’t anticipate raising money from investors or taking on equity partners, you have a lot more flexibility. While a C-corporation is still an option (and makes it easy to change your mind about investors down the road), it can be expensive to set up and manage. A cost-effective way to get started is to set up a single-member LLC. These entity types are easy to set up, cost-effective to maintain long-term and provide a great personal liability shield without a lot of complexity. As your business grows, you even have the option to take the “S-corp election” on your LLC and optimize your personal tax situation down the road.
Other entity types, like partnerships or trusts, are pretty uncommon in the context of starting a new business and likely won’t be a good fit.
3. Match the Structure to Goals and Priorities
As a seasoned financial expert and startup CFO, I always recommend analyzing your goals and priorities to determine the best structure. An LLC provides liability protection with minimal compliance, ideal for launching. However, if funding or scaling quickly are priorities, a C-corp may be better. C-corps are more familiar to investors and allow equity issuance.
For example, I worked with an e-commerce startup that began as an LLC but converted to a C-corp to raise $2M in seed funding. The C-corp structure gave investors more confidence, and the founders retained 60% equity. However, C-corps require more complex accounting and compliance, which can strain resources for young startups.
There is no one-size-fits-all. Consider your risk tolerance, funding needs, and exit strategy. An LLC may suit launching but limit funding options. A C-corp provides more flexibility but higher costs and compliance obligations. The wrong choice could mean loss of control or missed opportunities. Focus first on viability; you can optimize structure later. But choose wisely, transitions can be complex.
–Russell Rosario, Russell Rosario
4. Assess Compliance and Legal Requirements
Compliance and legal requirements vary greatly between business structures, and it’s important to assess whether your startup can handle these obligations effectively.
A general partnership has relatively few formal legal requirements compared to a corporation, but partners are personally liable for the business’s actions and debts. This structure may suit startups that value simplicity and have partners who are comfortable with shared legal responsibilities.
Conversely, if your business requires more formal legal protections and structures, such as those provided by a corporation, you must be prepared to meet the ongoing legal requirements, including extensive documentation and regulatory compliance. Balancing your readiness for legal obligations with the structure’s benefits is key to making an informed decision.
–Jonathan Feniak, LLC Attorney
5. Evaluate Operations and Business Nature
The decision on a business structure should be based on a thorough assessment of the startup’s goals and the nature of its operations. If the goal is to scale quickly and attract investors, a corporation might provide the necessary framework for issuing shares and limiting liability.
For businesses focused on maintaining control and managing a small operation, an LLC or sole proprietorship could offer the flexibility and ease of management needed. Carefully considering the level of control, growth potential, and administrative complexity will help determine the most suitable structure.
–Mark Pierce, Wyoming Trust & LLC Attorney
6. Align Structure with Long-Term Goals
As it was a pivotal decision, I carefully considered several critical factors before choosing the proper business structure for my startup. Initially, I assessed my long-term goals to envision where I wanted my business to be in the next five to ten years. This helped me understand whether I needed a flexible structure like a sole proprietorship or something more formal like a corporation.
I then considered the liability aspect. I wanted to protect my assets from business liabilities, so I leaned toward an LLC or a corporation. Both structures offer limited-liability protection, which was crucial for my peace of mind. Tax implications also played a significant role in my decision. I consulted with a tax advisor to understand each structure’s different tax benefits and obligations.
For instance, an LLC offers pass-through taxation, which can be beneficial. In contrast, a corporation faces double taxation but might provide more advantages regarding fringe benefits and raising capital. I also considered the complexity and cost of forming and maintaining the business structure. Some structures, like sole proprietorships, are easier and cheaper to set up and manage, but they offer a different level of protection or growth potential than a corporation or LLC.
Additionally, I considered my potential need for investors. Corporations are often more attractive to investors because they can issue stock. Since I anticipated needing external funding, this became a strong consideration.
After thorough research and consultation with legal and financial advisors, I chose the structure that best aligned with my goals, offered the necessary protections, and positioned my startup for future growth. This decision required careful consideration of all these factors to ensure I was setting my business up for success from the outset.
7. Support Continuous Investment Needs
For businesses with ongoing capital needs that may require additional rounds of funding, selecting a structure that supports continuous investment is crucial.
A corporation, whether an S-corp or C-corp, provides a framework that allows for multiple rounds of fundraising through the issuance of shares or other equity instruments. This can be particularly beneficial for startups anticipating growth phases that will require fresh capital at different stages.
The structure’s ability to attract diverse investors, from angel investors to venture capitalists, makes it a strong choice for businesses with high and recurring capital requirements. Evaluating how well the structure can accommodate your funding strategy will help ensure it supports your business’s financial objectives.
–Roman Zrazhevskiy, MIRA Safety
8. Prioritize Scalability and Investor Attraction
I considered the importance of scalability, attracting investors, and protecting personal assets. These reflections led me to decide on a C-corporation, which I believed would provide the best framework for growth and investment. However, the path to this decision was not straightforward.
I vividly recall the late nights spent discussing with mentors and fellow entrepreneurs, dissecting every possible structure. Their firsthand experiences and insights helped me understand the practical implications beyond the textbook definitions. For any startup founder, my experience underscores the necessity of aligning your business structure with your vision and seeking guidance from those who have navigated these waters before.
9. Protect Intellectual Property
If protecting intellectual property is a top priority, a business structure that supports clear and enforceable IP rights is essential.
For example, forming a limited partnership can allow you to separate ownership of intellectual property from the general business operations, providing a layer of protection and control over these assets. This structure can be particularly advantageous if different partners bring unique IP to the venture and wish to retain ownership while contributing to the business. Ensuring that the business structure supports your IP-protection goals is key to safeguarding your business’s unique assets.
–Reyansh Mestry, TopSource Worldwide
10. Opt for Simplicity with Sole Proprietorship
Keeping things simple and avoiding complex tax filings, a sole proprietorship may be the best fit for your startup. This structure allows you to report all business income and expenses directly on your personal tax return, reducing paperwork and administrative burden.
While this simplicity is appealing, it also means that you will be taxed on all business profits as personal income, which can lead to higher overall taxes if your business is successful.
Additionally, sole proprietors are responsible for self-employment taxes, which cover Social Security and Medicare. Balancing the ease of filing with the potential tax costs is important when considering this structure for your business.
–Jim Pendergast, altLINE Sobanco
11. Consider Public Perception
Public perception can significantly influence the selection of your business structure, especially if you plan to engage with investors or high-profile clients. Corporations often convey a sense of professionalism and stability, which can enhance trust and credibility in the eyes of the public and potential partners.
This image might be crucial for industries where reputation is key to securing contracts or attracting customers. If your startup’s success depends on public trust, choosing a structure that supports a strong, positive image can be a strategic move.
12. Weigh Tax Impact and Liability Protection
A crucial factor to consider when selecting a business structure for your startup is the impact on taxes and the level of liability protection it offers. Different business structures have different tax obligations and levels of personal liability for the owners. For example, a sole proprietorship or partnership has no separation between the business and its owner, making the owner personally liable for any debts or legal issues.
On the other hand, a corporation or limited liability company (LLC) provides more protection by separating the business entity from its owners’ personal assets. Consider consulting with a tax professional and legal advisor to determine which business structure best suits your startup’s needs.