The Best Business Entity for Taxes: Sole Prop, LLC or Partnership?

If you have an existing business or are starting a new business you may want to consider forming a corporation or an LLC.

Most people who go into business for themselves just add an extra page to their individual tax return called a Schedule C to report earnings and deductions from self-employment.

If you form any other type of business entity you will need to file a separate tax return for your business and then report your business earnings on your individual tax return as well. Sometimes this can result in the business getting taxed and then getting taxed again at the individual level.

An LLC is a Limited Liability Company. In California an individual can form a Limited Liability Company and be taxed on a regular individual tax return.

Once the LLC is formed it can be taxed as a corporation if the owner thinks that entity offers better advantage.

The most complicated tax entity is the corporation.

Unlike a sole proprietor, corporations must keep very detailed bookkeeping. Sole proprietors can commingle money between their personal finances and the business. If you are doing business as a corporation you must pay yourself wages (W-2).

Corporations cannot use the corporate checkbook for personal expenses. Many small business people have difficulty adhering to this regulation. A small business just starting out may be better off not forming a corporation.

If you decide to from a corporation you will have to make a choice between a “C” corporation or an “S” corporation.

The “S-corp” is taxed as a pass-through, meaning no tax is paid by the corporation. All of the income and deductions are passed-through to the shareholders.

A “C-corp” is taxed at the corporate level and then taxed again at the individual level.

If a business has more than one owner they need to operate as a partnership.

Partnerships must file a separate tax return just for the partnership. Then each owner’s share of the income and deductions are reported on the individual tax returns.

Partnership tax returns tell the IRS about your business. All of the taxes are paid on your individual tax return. For this reason, partnership tax return are called a pass-through.

Partnerships can also file for liability protection by forming an LLC with the Secretary of State.