Is Incorporation the Right Move When You’re Ready to Expand Your Small Business?
When you’re launching a new business, one of the most important decisions you have to make is how to structure your venture. If you’re running the show alone, operating as a sole proprietorship often makes the most sense.
However, you may rethink how you want to define your business as it evolves. If you have an interest in expanding your operations, then incorporating your business is a logical next step. However, incorporation is a bit more complicated than being a sole proprietor. Weighing both the advantages and disadvantages of incorporation can help you determine whether it’s something you should pursue.
How incorporating can fuel your business growth
From a growth perspective, incorporation benefits you in two ways. First, it allows you to establish credit in your business’ name. If you want to apply for a loan, establish a line of credit or open a corporate credit card account, you wouldn’t have to put your personal credit on the line. Having credit in your business’ name can also come in handy for obtaining working capital if your personal credit is less than stellar.
Besides that, operating as a corporation works in your favor if you want to raise funds using angel investors, venture capital or crowdfunding. Typically, all three require you to hand over some sort of equity stake in the business. In order to offer shares through equity crowdfunding, to a VC, or an angel investor, you’d have to be incorporated first.
Are there any downsides to incorporation?
Like any other business decision, you have to consider the potential drawbacks of incorporating before making a move. The cost and the time involved to complete the incorporation process are the most significant obstacles to watch out for.
The requirements for forming an S-corp, C-corp or Limited Liability Company (LLC) vary from state to state; but generally, there’s a good deal more paperwork involved than establishing a sole proprietorship. The fees for filing your articles of incorporation can run several hundred dollars alone. If you hire an attorney to wrap things up, you could be looking at an even higher price tag.
Besides that, corporations also have to deal with a more complicated tax filing. Sole proprietors report business income on their personal tax return. However, it is not as simple to file your taxes when you’re incorporated.
Corporations have the advantage of being able to pay less in taxes. They are also able to claim higher deductions for business expenses. But, corporations are exposed to double taxation. Meaning, the corporation is required to pay income tax. At the same time, the shareholders pay income tax on dividends. If you’re a smaller company and the only shareholder, that could add up to a bigger tax bite compared to what you might pay as a sole proprietor.
Weigh the cost against your business goals
Incorporating early on in the game may not give your business much of a boost. There is also a high expense, that you may not be able to justify. However, if you’ve been in operation for more than a year, then incorporation can be an excellent stepping stone to growth. Compare the immediate cost of incorporation to your anticipated return on investment to measure its usefulness as an expansion tool.
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