Tips for Starting a New Business

1) Choose a business structure. The most common business structures are:

● Sole proprietorship: An unincorporated business owned by an individual. There’s no distinction between the taxpayer and their business.

● Partnership: An unincorporated business with ownership shared between two or more people.

● Corporation: Also known as a C corporation. It’s a separate entity owned by shareholders.

● S Corporation: A corporation that elects to pass corporate income, losses, deductions, and credits through to the shareholders.

● Limited Liability Company: A business structure allowed by state statute that combines the pass-through taxation of a partnership or sole proprietorship with the limited liability of a corporation.

2) Choose a tax year. A tax year is an annual accounting period for keeping records and reporting income and expenses. A new business owner must choose either:

● Calendar year: 12 consecutive months beginning January 1 and ending December 31.

● Fiscal year: 12 consecutive months ending on the last day of any month except December.

3) Apply for an employer identification number (EIN). An EIN is also called a federal tax identification number. It’s used to identify a business. Most businesses need one of these numbers. It’s important for a business with an EIN to keep the business mailing address, location, and responsible party up to date. IRS regulations require EIN holders to report changes in the responsible party within 60 days. They do this by completing Form 8822-B, Change of Address or Responsible Party, and mailing it to the address on the form.

4) Have all employees complete these forms:

● Form I-9, Employment Eligibility Verification U.S. Citizenship and Immigration Services

● Form W-4, Employee’s Withholding Allowance Certificate

5) Pay business taxes. The form of business determines what taxes must be paid and how to pay them.

6) Visit your state’s website. Prospective business owners should visit their state's website for info about state requirements.

The Principal-Agent Relationship

The principal-agent relationship is formed when one party (the agent) agrees to act on behalf of and subject to the control of the other party (the principal). There are three requirements for forming a principal-agent relationship (which can be remembered by the mnemonic “ABC”): assent, benefit, and control.

● Assent: the principal and agent agree to create this agency relationship.

● Benefit: the agent will act for the benefit of the principal

● Control: the principal has the right to control the ultimate objective of the agent’s work.

Note some important things that are NOT requirements to forming a principal-agent relationship:

● Intent is not required. Two people can enter into a principal-agent relationship without even knowing it.

● Writing: the formation of the principal-agent relationship does not need to be in writing. A simple conversation between two people can give rise to a principal-agent relationship.

● Compensation is also not required. The agent can be gratuitous.

What are the ramifications of the principal-agent relationship? If a principal-agent relationship exists, the principal may be liable for contracts that the agent enters into on behalf of the principal. In addition, a principal may also be liable (vicariously) for tortious misconduct committed by the agent.

Business Structure and Tax Returns

The type of business structure determines which income tax return a business needs to file. The most common business structures are:

● Sole proprietorship: A sole proprietorship is an unincorporated business owned by an individual. There is no distinction between the taxpayer and their business. As a result, a sole proprietor reports business income and expenses on Schedule C of the sole proprietor’s personal tax return (Form 1040).

● Partnership: A partnership is an unincorporated business with ownership shared between two or more people. A partnership must file an annual information return (Form 1065) to report income and expenses, but it does not pay income tax. Instead, it "passes through" any profits or losses to its partners.

● C Corporation: A standard corporation (also known as a “C” corporation) is a legal entity that is separate and distinct from its owners. It must file a Corporation Income Tax Return (Form 1120) to report income and expenses of the corporation. The corporation pays taxes on its profits, and the shareholders must also report their dividends on their personal tax returns.

● S Corporation: An “S” corporation elects to pass corporate profits or losses through to its shareholders. An S corporation files Form 1120S. Like a partnership, an S corporation does not pay tax. The income flows through to the shareholders, who report their share of the income on their personal tax returns, regardless of whether the income was distributed or re-invested in the company.

● Limited Liability Company: A Limited Liability Company (LLC) is a business structure allowed by state statutes. Since they are created by state law, the IRS does not recognize the LLC business structure. By default, the IRS considers an LLC to be a sole proprietorship if there is one owner or a partnership if there is more than one owner, unless the LLC elects to be treated as a corporation.