As an independent sales professional, you might find yourself more excited and focused on selling your product and making money than on taxes and legal structure. We don’t blame you. Figuring out what steps you should take for your business isn’t exactly the most exciting topic to consider, however it is critical. This one decision will influence how much you’re taxed, the forms you’ll need to file, and your personal liabilities. The short answer to the above question is that there isn’t one magic bullet – so we’ve laid out a few options below to help educate you on the matter so that you can make the right decision for yourself.

 

If you are looking for help from start to finish, check out our post How To Form A Business: For Sales People Looking For The Quick, Easy And Safe Route To Registration.

Choosing not to select a business structure

Starting from the absolute beginning, it is important to note that you don’t necessarily have to take action right away. If you’re just starting out with a new opportunity as a salesperson, or are more experienced but have yet to address this question, don’t worry, you’re not too late. By taking no action in registering your business, the government automatically recognizes you as a sole proprietorship.

So what does this mean for you? Becoming a sole proprietorship is obviously easy to form, as we’ve shown – you really don’t need to do anything. This structure also requires the least amount of paperwork. The reason for the reduction in paperwork?  You and your business are considered one entity. Simple, easy and clean, score! But before you stop here and call it a day, there are some negatives to consider.

The biggest negative to establishing your business as a sole proprietorship is that same lack of separation between your business and personal assets. If your business is sued or goes bankrupt, your personal assets are in jeopardy. No one ever plans on getting sued or going bankrupt, but most entrepreneurs feel that taking a less risky approach to forming a business is prudent and instead chose to form an LLC or incorporate.

As a sole proprietorship, you will have to list your business’s profits and losses on a Schedule C and file a form 1040 with the IRS. The major downside here is that you will be taxed on all profits from your business whether or not you took all the money as “payment” for your work. So if for example, you left money in the business bank account for future expenses, the IRS would still treat that money as personal income for which you will pay taxes. These taxes are paid out quarterly to the IRS (and sometimes the state) in April, June, September, and January. Intuit explains quarterly taxes in more detail here.

You can deduct business expenses, so if you are going the route of a sole proprietor, it is recommended that you have a separate bank account, bookkeeping, as well as all necessary records and receipts for your past expenses.

In addition to the above taxes, sole proprietors have to pay self-employment taxes. Reported on a Schedule SE, these are your contributions to Social Security and Medicare. Unlike employees of companies that split this with your employer, you will be paying the full contribution. Don’t forget to put money aside for these taxations throughout the year or you might find yourself caught by surprise when due.

Perhaps it is best to consider the sole proprietorship option as a way to test new opportunities without spending your time and money on forming an LLC or corporation. If in time, you feel ready to take the next step, you can look to LLCs and corporations to further formalize your business.

Selecting a business structure

LLCs

LLC stands for Limited Liability Company and is a business structure that protects your personal assets from lawsuits and bankruptcy should your business face either of those situations. Asset protection is a big reason why an LLC structure would be selected in place of a sole proprietorship. Regarding taxes, there are some similarities to a sole proprietorship as well as some differences that we will explore next.

Like sole proprietorships, LLCs do not file corporate taxes, rather, profits and losses get passed through to the owner(s) as personal income. If you are the only owner of the LLC, the tax process is exactly the same as a sole proprietorship. You will list profits and losses on a Schedule C and file a form 1040 with the IRS. You will also be responsible for your quarterly payments and contributions. If there are multiple owners, it’s a little different as taxes are based on distributive share, so keep this in mind if you fall into that designation.

Additionally, some states have taxes and fees that they collect from LLCs. Be sure to check your state requirements for income taxes, franchise taxes, registration fees or renewal fees. Nolo has a 50 state guide that can help you with your state requirements.

One big difference between a sole proprietorship and an LLC is the option to elect to be taxed as a corporation. If you plan on leaving a fair amount of your profits in the company bank account, you might want to consider filing the form 8832 Entity Classification Election with the IRS and checking the corporate treatment box on the form. The tax rate on the first $75,000 of corporate taxable income is lower than the tax rate for individuals. This could save you some money come tax time.

Corporations

There are two main types of corporations: C corporations and S corporations. Unless you are planning on raising money from outside investors or going public, structuring your business as a C corp is a little overkill. For this reason, we will look at S corps in more detail.

An S corporation is a desirable option for small businesses as this structure once again has the liability protection that keeps your personal assets separate from your business. Unlike a C corp that is subject to “double taxation”, an S corp does not pay federal taxes, but once again passes the profits and losses through to the shareholders and files an information return Form 1120S. You’re probably thinking “This sounds very similar to an LLC.”, and it does with a couple of exceptions.

For one, there is no self-employment tax. Unlike sole proprietorships and LLCs, shareholders of an S corp do not have to pay a self-employment tax. In an S corp, you are treated as an employee and so taxes are withheld. Part of the contribution to Social Security and Medicare will come out of your paycheck and part from the company.

Secondly, there are no payments to Social Security and Medicare on distributions. This means that you can be paid dividends as an owner in the company and neither you nor the company needs to pay employment taxes.

As a shareholder, you will receive a Schedule K-1 from the corporation and must file a Schedule E with your Form 1040. Other differences between an LLC and S corp are administrative. As an S corp, you will need to create a board of directors, hold shareholders’ meetings, file corporate minutes, and perform other duties seen with C corps.

As these entities are all unique and carry with them different advantages given your particular circumstances, it is always advisable to meet with an accountant or small business advisor to go over the details before making a decision. Although each option comes with different startup and maintenance costs, they are all relatively easy to create.

Disclaimer

The materials available on this website are for informational purposes only and not for the purpose of providing legal or tax advice. You must not rely on the information on this website as an alternative to legal or tax advice from your attorney, accountant or other professional service providers. You should contact your advisors to obtain counsel with respect to any particular issue or problem.