A lot of you have probably heard that you need to form a legal entity for your business. The answer as to why and what type of legal entity is right for you is much more elusive than the advice you have been given. Legal entities can be confusing. Don’t worry though, we are here to break it down for you – so that you can make an informed decision to protect your business. First, let’s start with some facts:
- There are almost 28 million small businesses in the U.S.
- Out of businesses that have annual receipts of $1,000 or more, 19.4 million are sole proprietorships, 1.6 million are partnerships and 1.4 million are corporations.
- Contract disputes make up about 60% of the 20 million civil cases filed every year.
- The median costs for a business lawsuit start at $54,000 for a liability suit and can reach about $91,000 for the median contract dispute.
- The median judgment awarded for contract cases is $35,000 compensatory and $68,000 punitively.
What does this mean? It means that if you get sued, which is fairly common, you may have to pay a lot of money just to litigate the lawsuit. However, if the other side wins, you can end up owing a lot of money as well. Where will you get this money? There are a few avenues, the first being taking money out of your business. While this is painful, the second avenue is much worse – you could lose your personal assets, such as your car or house. Imagine having to move your family, not being able to drive your kids to school or losing your family heirlooms. Scary! Fortunately, you can do something right now to prevent this from happening and to protect your personal property. Here come to legal entities!
Legal entities have legal standing in the eyes of the law, meaning that they have the legal capacity to enter into contracts, assume obligations, incur and pay debts, sue and be sued, and to be held responsible for its actions. Legal entities include S Corporations, C Corporations, limited liability companies, limited liability partnerships, limited liability limited partnerships and professional companies. These entities create a shield of protection around your personal assets and guard them from the liabilities of your business. If you are a sole proprietor or a partnership, your assets are not protected. To enjoy protection, paperwork needs to be filed in the state in which you would like to form your legal entity and you must pay a filing fee to the state. The fee is usually just a few hundred dollars and, considering the benefits of limited liability, is actually a very good deal.
What types of questions should you consider before forming a legal entity?
- What will be the name of your company?
- What state will your business be located in?
- Do you currently have partners?
- Will you have partners in the near future?
- Will you try to obtain funding?
- What is the purpose of your company?
How can you choose the type of legal entity that is right for you and your business? This is the point at which the advice of a good attorney is invaluable. An attorney will help you choose the right entity based on your answers to the questions above. Furthermore, an attorney will make sure that all paperwork is filled out correctly the first time, helping you save both time and money.
At this point, you are probably asking: these legal entities sound great, but why are most business owners doing business without them? First, it does not cost anything to do business in such a way (we mean that there is no filing fee required). Obviously, from the information provided above, we can all gather that the costs in the future are much higher. Second, some people and businesses do not necessarily need a legal entity. For example, if Sally makes greeting cards from her spare room and has only sent out 50 cards, she may not need any additional protection just yet. Lastly, some business owners are just not aware of the benefits of legal entities.
We hope that this has been helpful. Please do not hesitate to contact us if you have any questions about legal entities and protecting your business.
Donata Kalnenaite, Esq.