Ask HN: S-Corp/C-Corp/LLC
5 comments
I've got both an LLP and an S-corp.
For the income pass-through reasons, you're right that a S-corp or LLP is the way to go. If I recall correctly, the tax difference between the 2 boils down to how much you're going to make - that is if you make over $X per year you want one solution and if you make under $X you want the other. I was in a similar situation, crunched the numbers, and determined that an S-corp was the correct solution for me, but your situation could well be different. I believe an LLC/LLP also dodges the $800 / yr that CA demands of a corp for the privilege of doing business in its state, so that might also factor into your consideration (not so sure about that one though, my LLP isn't in CA).
You can always convert to a C-corp later, but it doesn't seem like it makes much sense for you now.
For the income pass-through reasons, you're right that a S-corp or LLP is the way to go. If I recall correctly, the tax difference between the 2 boils down to how much you're going to make - that is if you make over $X per year you want one solution and if you make under $X you want the other. I was in a similar situation, crunched the numbers, and determined that an S-corp was the correct solution for me, but your situation could well be different. I believe an LLC/LLP also dodges the $800 / yr that CA demands of a corp for the privilege of doing business in its state, so that might also factor into your consideration (not so sure about that one though, my LLP isn't in CA).
You can always convert to a C-corp later, but it doesn't seem like it makes much sense for you now.
> the tax difference between the 2 boils down to how much you're going to make - that is if you make over $X per year you want one solution and if you make under $X you want the other.
I have an LLC, and some time ago I discussed about converting it to S-Corp with my accountant. I forgot the details but the logic was like this:
In LLC, you pay 2.9% of your net income (wage + dividend) for SE Medicare tax, no matter how much you make. In S-Corp, FICA tax, in which 2.9% Medicare is included, is only taxed on the wage portion. Thus if your company makes a lot more than the standard wage, S-Corp saves the 2.9% on the dividend part of your income (Wikipedia has example calculation: http://en.wikipedia.org/wiki/S_corporation ). If your company just makes around or below the standard salary, you don't have this advantage of S-Corp, and it is a matter which one needs more paperwork and accountant fees; for one-man small LLC like mine, these overhead cost is smaller than S-Corp.
(Note: Social Security Tax has a cap, so it doesn't make difference if you set your wage above the cap. You cannot set your wage too low in order to save FICA tax; it must be "reasonable").
Converting LLC to C/S-Corp looked a lot more work than converting S-Corp to C-Corp. My accountant suggested me that the easiest way was to dissolve my LLC first then establish a new S-Corp. Since my LLC was for small business and I didn't have any prospect of external funding, I decided to keep LLC.
I have an LLC, and some time ago I discussed about converting it to S-Corp with my accountant. I forgot the details but the logic was like this:
In LLC, you pay 2.9% of your net income (wage + dividend) for SE Medicare tax, no matter how much you make. In S-Corp, FICA tax, in which 2.9% Medicare is included, is only taxed on the wage portion. Thus if your company makes a lot more than the standard wage, S-Corp saves the 2.9% on the dividend part of your income (Wikipedia has example calculation: http://en.wikipedia.org/wiki/S_corporation ). If your company just makes around or below the standard salary, you don't have this advantage of S-Corp, and it is a matter which one needs more paperwork and accountant fees; for one-man small LLC like mine, these overhead cost is smaller than S-Corp.
(Note: Social Security Tax has a cap, so it doesn't make difference if you set your wage above the cap. You cannot set your wage too low in order to save FICA tax; it must be "reasonable").
Converting LLC to C/S-Corp looked a lot more work than converting S-Corp to C-Corp. My accountant suggested me that the easiest way was to dissolve my LLC first then establish a new S-Corp. Since my LLC was for small business and I didn't have any prospect of external funding, I decided to keep LLC.
If you register as an S-Corp in California, your company will be able to get group health insurance regardless of your personal health situation. It's required by California law. You won't be able to if it's an LLC. This may not be a big deal for you, but it was for me since I wouldn't have been able to do my startup if I couldn't get health insurance through the company.
Well, I plan on incorporating in Delaware if that's what's agreed upon, which, I believe, has a much much lower annual fee. Thanks for the advice.
If you're going to have a "lifestyle business" and you will be living in California you may as well just register the company in California. All Delaware gets you is more paperwork, i.e. the requirement to file in Delaware AND California.
If you're doing business in CA you'll still need to register as a foreign corporation, so the Delaware registration gets you very little.
http://www.sos.ca.gov/business/corp/corp_faq.htm
"Do I have to register (qualify) my out of state (or country) corporation in California?"
And it looks like the LLC doesn't avoid the fee:
http://www.sos.ca.gov/business/llc/llc_faq.htm
"Every limited liability company which is doing business in California or has filed Articles of Organization or an Application for Registration with the Secretary of State's Office is subject to the annual limited liability tax of $800."
http://www.sos.ca.gov/business/corp/corp_faq.htm
"Do I have to register (qualify) my out of state (or country) corporation in California?"
And it looks like the LLC doesn't avoid the fee:
http://www.sos.ca.gov/business/llc/llc_faq.htm
"Every limited liability company which is doing business in California or has filed Articles of Organization or an Application for Registration with the Secretary of State's Office is subject to the annual limited liability tax of $800."
This isn't going to be the answer that you want, but it doesn't matter what corporate form you take. What matters is what you build. LLCs are going to be the least work. You won't sacrifice things down the road - worst case, you and your partners create a new Corp and sell the LLC to that corp.
Most likely, you aren't going to attract VC investment (most companies don't). LLCs can grow very large (like Fidelity Investments which has profits of $1B per year). They require little anything to run them.
Just make your product. If you're successful, it won't matter. If you're unsuccessful, it won't matter. This is just distracting you from making your product.
Most likely, you aren't going to attract VC investment (most companies don't). LLCs can grow very large (like Fidelity Investments which has profits of $1B per year). They require little anything to run them.
Just make your product. If you're successful, it won't matter. If you're unsuccessful, it won't matter. This is just distracting you from making your product.
Pretty sure you can convert S Corp into C Corp at a later date and declare the multiple classes of stock needed to raise money. I believe if you convert into a C Corp from the S Corp, you have to wait a period of time (5 years?) to convert back into an S corp if you so wished. LLC is a different beast. I've personally never been involved with an LLC.
I'm not an attorney or tax guy, just a startup guy.
Update: Brad Feld Explains this well/confirms some things. http://www.feld.com/wp/archives/2006/02/s-corps-vs-llcs.html
I'm not an attorney or tax guy, just a startup guy.
Update: Brad Feld Explains this well/confirms some things. http://www.feld.com/wp/archives/2006/02/s-corps-vs-llcs.html
It is trivially easy to convert from S Corp to C Corp - one quick letter to the IRS and you are done - no lawyer necessary.
I organized my last startup as an S Corp so that initial losses would flow through to me, the founder and primary initial funder. Then, once I'd "lost" all my investment, and we were approaching outside investment, I converted to C Corp. This worked great, except for the loosing all my investment part.
I organized my last startup as an S Corp so that initial losses would flow through to me, the founder and primary initial funder. Then, once I'd "lost" all my investment, and we were approaching outside investment, I converted to C Corp. This worked great, except for the loosing all my investment part.
I often hear people (including Brad Feld in the relevant article on the front page of HN right now) saying that a corporation is the right choice if you plan on seeking funding, because venture investors don't want the pass through income that an LLC can create. VC's generally don't want to create Unrelated Business Taxable Income for their investors.
I don't understand why these VC's don't just create a corporation to buy stock in a LLC's. I know for a fact that at least some venture firms do this (I worked at one that did). A corporation can own stock in an LLC, and corporations (when the elect to be a C-corp, which I assume the VC would do) don't generate pass through income.
The only explanation I can think of is perhaps if someone is making small, angel or YC style investments. Then, the administrative cost of setting up and maintaining an additional "blocker" corporation for each investment would be significant in comparison to the total dollars invested.
I am very curious to know what the reason that firms that are investing hundreds of thousands if not millions of dollars don't do this.
I don't understand why these VC's don't just create a corporation to buy stock in a LLC's. I know for a fact that at least some venture firms do this (I worked at one that did). A corporation can own stock in an LLC, and corporations (when the elect to be a C-corp, which I assume the VC would do) don't generate pass through income.
The only explanation I can think of is perhaps if someone is making small, angel or YC style investments. Then, the administrative cost of setting up and maintaining an additional "blocker" corporation for each investment would be significant in comparison to the total dollars invested.
I am very curious to know what the reason that firms that are investing hundreds of thousands if not millions of dollars don't do this.
Having a C Corp is necessary only if you are seeking _venture_ funding. Other funding, like angels, friends+family, etc is available to just about all types of corporate structure, depending on the skill of your lawyer in setting up the investment structure.
Most businesses won't ever get venture funding, so setting up a C Corp now "just in case" is typically a big waste of money and effort. Instead, used some other entity type, then if you really need to, convert to a C Corp. Your early $ are far better spent marketing your product than on lawyers for corporate formation activities.
Most businesses won't ever get venture funding, so setting up a C Corp now "just in case" is typically a big waste of money and effort. Instead, used some other entity type, then if you really need to, convert to a C Corp. Your early $ are far better spent marketing your product than on lawyers for corporate formation activities.
Ask for referrals and talk to a (good) local lawyer.
There are trade-offs. There are options. There are costs. There are details.
More importantly, there are various (good) discussions and (key) decisions to be had among all of the (potential) partners (with the assistance of your lawyer), to ensure that all are on-board and in agreement, and that there are agreements around the plans for incorporation and for major state transitions including acquisition and dissolution.
Your lawyer is also then a good resource for a quick review of significant contracts; a good lawyer knows what to look for in these agreements.
NB: This incorporation topic (LLC versus S-corp versus C-corp, taxes, accounting, and related) seems fodder for inclusion over in the HN Library area.
There are trade-offs. There are options. There are costs. There are details.
More importantly, there are various (good) discussions and (key) decisions to be had among all of the (potential) partners (with the assistance of your lawyer), to ensure that all are on-board and in agreement, and that there are agreements around the plans for incorporation and for major state transitions including acquisition and dissolution.
Your lawyer is also then a good resource for a quick review of significant contracts; a good lawyer knows what to look for in these agreements.
NB: This incorporation topic (LLC versus S-corp versus C-corp, taxes, accounting, and related) seems fodder for inclusion over in the HN Library area.
Apologies if this subject seems to come up every so often, but I've sifted through searchyc and haven't found much.
I plan on registering a company, with 2 others, that will, as of now, be bootstrapped into a lifestyle business. At this point, you'd probably suggest I go with S-Corp or LLC because of their tax pass through and our desire to bootstrap. However, I do not want to sacrifice any possible opportunities that may arise down the road, with respects to granting options, raising vc money, or being acquired. Perhaps these are issues I shouldn't worry about now, but I'd rather set things up properly from the get go, which is why I am considering a C-Corp.
Any advice on when/why an llc/c corp/s corp would be chosen would be greatly appreciated.
Also, I'm looking for recommendations as to who to file these papers with. I'm in southern California.
Thanks.