Many people are in business without knowing it. They ask the question above and wonder how to deal with issues like sales taxes and income taxes. To be "in business" means something very different today than it did years ago, in a different tax and legal climate.
Why form a business? Why not just "sell stuff?"
f you are offering merchandise or services to the general public, here are 5 reasons why you need to adopt a specific business form:
Reason #1: To protect your company from liability.
All businesses have some liability, and some more than others. For example, if you are starting a day-care business or selling a product that may cause injury or illness to others, you have some serious liability issues and you need to protect your personal assets from liability suits. Even a simple online business has the risk of debt liability--if the business can't pay its debts, you cannot protect your personal assets from being seized by creditors unless your business entity is separate from your personal entity.You can purchase business liability insurance, but you also should consider a business form that limits your personal liability.
A sole proprietorship is the simplest type of business entity, but this type won't protect you from liability. If you are the only owner, you can still set up a limited liability company (LLC) with little expense, to provide you with liability protection. Setting up a corporation may be the best way to structure your business if your liability is higher.
Reason #2: To protect owner relationships and investments.
Another protection to consider is between owners. If more than one person owns the business, you need some kind of agreement to describe how the business is to be run, how to divide up the profits and losses, and what happens if someone leaves the business, get divorced, or dies, or a thousand other "what if" scenarios. And, by the way, an agreement is not a do-it-yourself task; get an attorney to help with this project.
Read more about partnership agreement terms
Read more about Factors to consider in selecting a business type.
Reason #3: To comply with federal, state, and local laws and regulations.
Selling something that is subject to sales taxes (as most products are) means you must collect, record, and pay sales taxes to your state. If you are selling your services, these may not be subject to sales taxes, but you may need to pay other taxes, like property taxes or excise taxes.
To "sell stuff" without forming a specific business structure (even a sole proprietorship) and not getting the appropriate business licenses and permits puts you at risk of heavy fines and penalties for not complying with the law. Selling at a local flea market or craft fair, for example, may cause a city to fine you for not having a license. Even if it sounds like more trouble than it is worth to comply with these laws and regulations, you will pay a heavy price for ignoring them.
Reason #4: For employee issues.
If you have employees, you definitely must be in a formal business structure. You will need an Employer ID (EIN) and you will have to designate a business type for that application. If you hire independent contractors instead of employees, you still need an employer ID, because you must report amounts paid to independent contractors over $600 a year.
Read more about how to set up a payroll system.
Reason #5: To take advantage of business tax deductions.
The positive part of adopting a specific legal structure, paying business taxes, and complying with regulations is the benefit you get from deducting your business expenses from your business income to reduce your taxes. If you don't set up a specific business entity, you can't deduct these expenses. For example, if you work from your home and you have a place where you regularly and exclusively" work on your business, you can deduct costs for the use of this part of your home
The Simplest Way to Start a Business
It's really not that difficult to start a business, to comply with laws and regulations and to protect your business from liability. Here are simple steps to creating a formal business structure and registering with licensing and regulatory agencies:
- Get a business name
- Start a sole proprietorship or, if you are concerned about liability issues, form a limited liability company.
- If there is more than one person in the business, put together an agreement to describe how you will operate the business and what happens if something change.
- Get local licenses and permits and register with your state for income tax and, if applicable, sales tax purposes.
- Get an Employer ID number (EIN), even if you will have no employees.
- Get a business checking account and use accounting software to keep track of business expenses.
Read more about Simple Business Startup.
Read more about Tax issues for vendors at flea markets and garage sales.