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Based on the first post in this business series (Hobby vs Business), you know that you are a business. So, now what?
It's now time to decide the type of entity you want to have. I'll talk about just two of the basic entities today: Sole Proprietorship (SP) and single member Limited Liability Company (LLC).
Sole Proprietorship
The moment you decide to sell you are automatically a Sole Proprietorship. You and your business are one in the same. Although you should keep everything separate to make life easier (especially during an audit), you aren't *required* to.
This entity is just as legitimate as any other entity. The IRS recognizes both a Sole Proprietorship and a Single Member LLC as a Sole Proprietorship, so federally, there is no difference.
Single Member LLC
I know it seems that everyone says you need to get an LLC, but, hear me out. There is a huge misunderstanding as to what an LLC actually does.
- Many jump into an LLC because they believe it keeps you from getting sued. The truth is, you can still be sued no matter what kind of entity you choose. You can always be sued for failing to meet state and/or federal requirements or violating any laws.
- Some jump into an LLC for tax savings. This one is two fold. There *might* be something with the state, but federally, there is no difference between a sole proprietorship and an LLC. You won't be double taxed, and you won't see any savings.
That being said (here is where the second fold comes in), if you choose to be taxed as an S-Corp, which you can elect as a sole proprietorship or an LLC, then the IRS does recognize this as a different taxing entity and you *may* receive some savings here (though, you are required to be on payroll which costs money, so make sure you talk to a professional about it first).
After doing what I do (which is product safety) for over 10 years, I feel confident that most makers do not need to have an LLC to start. They may shift into an LLC later, though.
Why would you want to be an LLC?
- If your personal assets are high. (insurance is better)
- If your spouse/partner/roommate has their own business.
- If you have another separate business. (you can honestly just keep finances and such separate)
- If you have a high risk product and/or your aversion to risk is high. (insurance is better)
- If you are prepared to file additional renewals and other paperwork for LLC compliance.
Always speak to a business attorney that can help you navigate the requirements and benefits that a state may provide you.
*note that requirements for an LLC may increase in the future due to FinCEN's Anti-Money Laundering Act of 2020 (AML Act) and Corporate Transparency Act (CTA).
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