Author Topic: Should I form a business entity?  (Read 3914 times)

Jack

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Should I form a business entity?
« on: October 13, 2016, 09:39:59 AM »
My wife has 1099 (independent contractor) income. She is currently working under her own name and using nothing more than her SSN.

I'm planning to open a solo 401k for her, which means she needs an Employer Identification Number (EIN) and therefore has to fill out form SS-4. Should she just register as a sole proprietorship in her own name, or should we take this opportunity to incorporate an LLC or something?

dandarc

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Re: Should I form a business entity?
« Reply #1 on: October 13, 2016, 09:47:40 AM »
How much income are we talking about?

Incorporating isn't free in most states, so you've got a cost there.  Then it could change your arrangement - example - I'm a sole proprietor and my middle-man on my contract said if I incorporate, our relationship would change dramatically, due to requirements for corp-to-corp being different than for corp-to-proprietor on the contract he has with the ultimate customer.

TrulyStashin

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Re: Should I form a business entity?
« Reply #2 on: October 13, 2016, 10:02:52 AM »
To clarify, a LLC is not a corporation, strictly speaking.  https://www.sba.gov/starting-business/choose-your-business-structure/limited-liability-company

She can easily, swiftly, and cheaply create a LLC with your state's corporation commission or secretary of state's office (varies by state).  It costs around $100 to create it and she'll have to make annual or biannual filings that also usually have a small fee of $50 or so.  These details vary by state.  Often, your state agency will have the simple form she needs to fill out online, on its website. 

Beware online sites that offer to file these documents for an extra fee -- that's a scam and totally unnecessary.  The only fee should be the one paid to your state.

In order to keep her business income segregated from her personal income she should have a separate bank account, which also requires her to have an EIN.

Jack

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Re: Should I form a business entity?
« Reply #3 on: October 13, 2016, 10:42:34 AM »
How much income are we talking about?

At the moment, not a whole lot -- little enough that I expect to be able to put all of it (net self-employment taxes) into a solo 401k (this year, at least). That might change in the future... or my wife might get a full-time permanent W-2 job and that would be the end of it.



I guess what I really want to know is, would being something other than a sole proprietorship be useful enough (now or in the future) to be worth the fees and/or paperwork?

Some background/details would probably be helpful:

My wife is a graphic designer. She's currently working as a 1099 for one company in a way that's probably worker misclassification... but such misclassification is so common in her industry that at this point we're just going to roll with it and hope the benefits of a solo 401k outweigh the costs of self-employment tax. Also, instead of pushing to be reclassified as W-2, she'll start pushing to be treated as a "real" contractor (in terms of autonomy and pay) and try to find multiple clients and whatnot. However, I don't anticipate it ever growing to the point that she has employees or anything like that.

(For the other company she works for, she gets paid as a W-2 employee of a contracting agency middleman, doing similar work under similar circumstances. I'd also love to have advice about how to negotiate with the company to cut out that middleman.)

The other thing is that we've got some aspirations -- that are mostly nothing but idle ideas right now -- for some other types of unrelated business ventures (e.g. landlording, creating indie computer games, etc.) and I have no idea whether it makes sense to have zero business entities (to it all directly in our names), one business entity to handle all of it, or a separate entity per venture.

Practically speaking, do I want to file the SS-4 as "[wife's name as individual]," "[wife's name as individual] d.b.a. [wife's name] Graphic Design", "[wife's name] Graphic Design, LLC", "[family name] Ventures, LLC d.b.a. [Wife's name] Graphic Design", etc.?

Jack

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Re: Should I form a business entity?
« Reply #4 on: October 13, 2016, 10:52:01 AM »
By the way... a business owned my my wife could potentially qualify as a "woman-owned business" and a "minority-owned business" whereas one owned by me -- or in a 50/50 split between her and me -- presumably could not qualify as either. I have no idea if it would ever matter, but I don't want to foreclose any opportunities by accident.

terran

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Re: Should I form a business entity?
« Reply #5 on: October 13, 2016, 10:54:47 AM »
The conclusion I've come to is that the liability protection offered by such entities isn't worthwhile for service based businesses like this (I'm a web developer) until you have employees because as long as you are personally performing all actions of the business your clients can come after personally for the work as well as the business.

The business is unlikely to be approved for a loan without a personal guarantee, so that probably won't be a factor either.

When it can start to make sense is when you're making enough such that you could split the income into wages for yourself and profit from the business thereby avoiding some self employment taxes. You might consider this once you could make a justification that you could hire an unrelated party to do the work your wife actually does in the business for an amount that's less than the total income (this smaller amount becomes the wage, and the amount over becomes the profit). This has to weighed against solo 401k contributions, however, because the profit sharing portion of the contribution is based on the wage, not the total income of the business.

BlueHouse

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Re: Should I form a business entity?
« Reply #6 on: October 13, 2016, 02:28:38 PM »
The conclusion I've come to is that the liability protection offered by such entities isn't worthwhile for service based businesses like this (I'm a web developer) until you have employees because as long as you are personally performing all actions of the business your clients can come after personally for the work as well as the business.


I agree with terran.   I am a government contractor (consultant) and when I got my first opportunity to go out on my own, I intended to grow and hire additional people, so I incorporated and elected sub-S (S-corp status).  It gave me a lot of options, but for various reasons, I never hired another person and now that some of those barriers are no longer in my way, I don't plan to hire anyone else now anyway. 

Paperwork for corporations is not trivial.  At the time, I didn't mind because I wanted to learn how it was all done and didn't mind giving up my personal time but now it's just a pain in the ass.  Each city and state has it's own rules in how it treats corporations as tax entities.  I do earn enough that I benefit from splitting w-2 earnings and shareholder dividend earnings but that could be offset in other ways if I had not incorporated.  (home office tax deductions, etc). 

I think the bottom line is to decide whether your wife wants to build an empire and manage the empire or whether she just wants to earn a decent (or great) living with less hassle?  Even if she wants to build the empire, I wouldn't start up the corp process until there's a reason to. 

Jack

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Re: Should I form a business entity?
« Reply #7 on: October 13, 2016, 03:11:47 PM »
I think the bottom line is to decide whether your wife wants to build an empire and manage the empire or whether she just wants to earn a decent (or great) living with less hassle?  Even if she wants to build the empire, I wouldn't start up the corp process until there's a reason to. 

To be honest, she'd prefer to be a W-2 employee.

So, for now at least, I guess the KISS/sole proprietorship/"just request an EIN in her individual name" plan is the way to go. Thanks for the help!

arebelspy

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Re: Should I form a business entity?
« Reply #8 on: October 23, 2016, 06:17:08 AM »
So, for now at least, I guess the KISS/sole proprietorship/"just request an EIN in her individual name" plan is the way to go.

Yup!  LLC is for liability, not taxes.  Since your goal is the solo 401k, rather than liability protection, no need for it.  :)
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Frugalman19

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Re: Should I form a business entity?
« Reply #9 on: October 23, 2016, 10:10:28 AM »
To clarify, a LLC is not a corporation, strictly speaking.  https://www.sba.gov/starting-business/choose-your-business-structure/limited-liability-company

She can easily, swiftly, and cheaply create a LLC with your state's corporation commission or secretary of state's office (varies by state).  It costs around $100 to create it and she'll have to make annual or biannual filings that also usually have a small fee of $50 or so.  These details vary by state.  Often, your state agency will have the simple form she needs to fill out online, on its website. 

Beware online sites that offer to file these documents for an extra fee -- that's a scam and totally unnecessary.  The only fee should be the one paid to your state.

In order to keep her business income segregated from her personal income she should have a separate bank account, which also requires her to have an EIN.

I think it determines what state youre in. In California, if you have an LLC the yearly fee is $800, plus you have to file a tax return for the llc which, if you have your taxes done professionally, can cost some money, so it turns out to be a pretty expensive decision, and most people dont need it at all.

Fuzz

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Re: Should I form a business entity?
« Reply #10 on: October 23, 2016, 03:41:29 PM »
It would be unusual for the liability protection of the LLC to be significant for your wife. She's unlikely to be sued over a graphic design deal. That said, the protection is not nothing, either. Having the contracts flow through the LLC  provides some level of benefit.

Other random benefits:

-maybe less audit risk re: solo 401K
-maybe easier time with paperwork to set up a solo 401K
-possibly more professional looking, if she goes out and gets clients on her own. I would expect to pay a sole proprietor less compared to an LLC in most instances.
-probably less audit risk if she wants to pay herself a wage and avoid some payroll tax
-if she is ever going to have employees/partners, the LLC is helpful

If she is going to do over 50K/year in revenues, I'd suggest it. If she is just buying time until she gets a W2 job, I'd skip it.

Getting a separate bank account is a good idea, having one in an LLC makes it easier to separate out company money from personal money. But I would strongly advise getting separate accounts and cards for biz income and biz expenses.

Focus on getting paying clients. Ramit's earn 1K is helpful.

Telecaster

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Re: Should I form a business entity?
« Reply #11 on: October 23, 2016, 04:17:05 PM »
So, for now at least, I guess the KISS/sole proprietorship/"just request an EIN in her individual name" plan is the way to go.

Yup!  LLC is for liability, not taxes.  Since your goal is the solo 401k, rather than liability protection, no need for it.  :)

I'm no tax guru, so corrections/clarifications are definitely welcome, but an LLC can help with taxes.  Specifically, if the LLC files taxes as an S-corp.  The reason why is that if you are a sole proprietorship, you have to pay both halves of the payroll tax (although one half is deductible).     

However, if you are an S-corp or an LLC filing as an S-corp, some of your income is presumed to be earned by your work as an employee of the business.  But some of your income is dividends as the result of you being the owner of the business.   That dividend portion is not subject to payroll taxes.   Note that just being an LLC isn't enough.  You have to file a form with the IRS to be taxed as an S-corp (I believe you can be taxed as a C-corp instead if you like, but that usually doesn't make sense for small businesses). 

One caveat is that your payroll income has to be in line with what over people in your industry make, the portion above that amount can be considered dividends.   If it just a part time gig, then her income won't be high enough to matter (I'm guessing). 

And of course, be wary of tax advice given by unknown schlubs on the Internet.   

Frugalman19

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Re: Should I form a business entity?
« Reply #12 on: October 24, 2016, 08:04:04 AM »
It would be unusual for the liability protection of the LLC to be significant for your wife. She's unlikely to be sued over a graphic design deal. That said, the protection is not nothing, either. Having the contracts flow through the LLC  provides some level of benefit.

Other random benefits:

-maybe less audit risk re: solo 401K
-maybe easier time with paperwork to set up a solo 401K
-possibly more professional looking, if she goes out and gets clients on her own. I would expect to pay a sole proprietor less compared to an LLC in most instances.
-probably less audit risk if she wants to pay herself a wage and avoid some payroll tax
-if she is ever going to have employees/partners, the LLC is helpful

If she is going to do over 50K/year in revenues, I'd suggest it. If she is just buying time until she gets a W2 job, I'd skip it.

Getting a separate bank account is a good idea, having one in an LLC makes it easier to separate out company money from personal money. But I would strongly advise getting separate accounts and cards for biz income and biz expenses.

Focus on getting paying clients. Ramit's earn 1K is helpful.

Thats alot of maybes and possiblys, I deal with businesses everyday, and Ive never heard of someone making more because they were an LLC or Sole Propriator. As far as the insurance of an LLC, it is not full proof either, it happens all the time, its called "piercing the corporate vail." I wouldn't waste my time or money on an LLC until you have to (some companies require you to form an LLC to do large contracts with them, do it then if it happens).

Make sure you have liability coverage above your net worth and you'll be fine, and that's much cheaper than an LLC.

 

BlueHouse

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Re: Should I form a business entity?
« Reply #13 on: October 24, 2016, 10:35:52 AM »

Other random benefits:

-maybe less audit risk re: solo 401K
-maybe easier time with paperwork to set up a solo 401K
-possibly more professional looking, if she goes out and gets clients on her own. I would expect to pay a sole proprietor less compared to an LLC in most instances.
-probably less audit risk if she wants to pay herself a wage and avoid some payroll tax
-if she is ever going to have employees/partners, the LLC is helpful

Regarding the bolded part above, this is interesting.  May I ask why?  To me, corporate structure shouldn't matter to a client (although there are higher overhead costs, but I can't imagine raising my price for a customer because I changed my corporate structure, so I wouldn't consider doing the opposite).

On the other hand, I was asked by my very first solo client to reduce my rate -- they expected it because they were going through one less layer direct to me.  When they asked me for a lower rate, I said no and pointed out that they were happy with my work when they were paying another company, were they any less happy with my work just because the accounting department would put a different name on that check?  It's really no one's business how companies work with their internal overhead costs.  Never ever share overhead costs with anyone outside your company, for just this reason. 

It's important for people to remember that just because there is no middleman anymore, reducing my rates for one customer has bigger consequences down the line.