Your business structure decides three things:
- How much of your personal property is at risk if the business is sued or can’t pay its debts
- How your profits are taxed
- How much paperwork you’ll handle each year
Most small businesses choose between a sole proprietorship, a partnership, an LLC, or a corporation. This guide walks through each option and the questions that will point you to the right one.
You can change your structure later, so you don’t need a perfect answer today. You need one that fits where your business is now and where you expect it to be in the next few years.
Start with five questions
How much risk does your business carry?
If customers, employees, or the public could be injured or suffer a loss because of your work, or if you’ll sign leases, take on debt, or hold inventory, protecting your personal savings, home, and car matters. Freelance writing carries less risk than running a gym or a construction crew.
How many owners will there be?
A business with one owner has more options and less paperwork. With two or more owners, you’ll want a structure and a written agreement that spell out who owns what, who makes decisions, and what happens if someone leaves.
How much profit do you expect?
At lower profit levels, the simplest tax setup is usually the best one. As profits grow, some structures and tax elections can reduce self-employment tax, but they add payroll and accounting costs that only pay off above a certain income.
Will you raise money from investors?
Venture capital firms and most angel investors expect to invest in a corporation, usually a C corporation. If you plan to fund the business yourself or with loans, you don’t need a corporation for that reason.
How much administration are you willing to take on?
Every step up in protection and tax flexibility brings more filings, fees, and record-keeping. Be honest about how much of that you want to manage yourself or pay an accountant to handle.
Sole proprietorship
If you start doing business on your own and don’t register anything, you’re a sole proprietor by default. There’s no state filing to form one, though you may need a local business license and a “doing business as” (DBA) name if you operate under a name other than your own.
Advantages: It’s free and fast to start, you keep full control, and your business income goes on your personal tax return.
Drawbacks: There’s no legal separation between you and the business. If the business is sued or can’t pay a debt, your personal assets are on the line. You’ll also pay self-employment tax on all of your net profit, and some clients and lenders take sole proprietors less seriously.
Consider it if: You’re testing an idea, working alone, and doing low-risk work.
Partnerships
A general partnership forms automatically when two or more people go into business together for profit, even without paperwork. Each partner reports their share of profits on their personal return.
The biggest risk is that each general partner can be held personally responsible for the business’s debts, including debts another partner took on. For that reason, most co-owners are better served by a multi-member LLC.
Some states also offer limited partnerships (LPs), where passive investors have limited liability but at least one general partner doesn’t, and limited liability partnerships (LLPs), which are commonly used by law firms, accounting firms, and other licensed professionals. Availability and rules vary by state.
Consider it if: You’re in a profession where an LLP is standard, or you’re setting up an investment arrangement with active and passive partners. Either way, put a written partnership agreement in place.
Limited Liability Company (LLC)
An LLC is a separate legal entity you form by filing with your state. It shields your personal assets from most business debts and lawsuits while keeping taxes simple: by default, a single-member LLC is taxed like a sole proprietorship and a multi-member LLC is taxed like a partnership. If it makes sense later, an LLC can elect to be taxed as an S corporation or a C corporation without changing its legal structure.
Advantages: You get liability protection, flexible management, few formal requirements, and tax options you can grow into. It also signals to clients and vendors that you’re an established business.
Drawbacks: You’ll pay a state filing fee and, in most states, an annual report fee or franchise tax. Costs range from modest to significant depending on your state. Owners still pay self-employment tax on profits unless the LLC elects S corporation status.
Keep the protection intact: An LLC only protects you if you treat it as separate from yourself. Open a business bank account, don’t mix personal and business money, sign contracts in the LLC’s name, and keep an operating agreement, even if you’re the only owner. Liability protection won’t cover a loan you personally guaranteed or harm you cause yourself, which is why many owners also carry business insurance.
Consider it if: You want personal asset protection without the formality of a corporation. For most small businesses, this is the default choice.
S Corporation
An S corporation isn’t a separate type of business entity. It’s a tax status that an LLC or corporation can elect by filing IRS Form 2553. Profits still pass through to the owners’ personal returns, but owners who work in the business must pay themselves a reasonable salary through payroll. Profit above that salary can be taken as distributions that aren’t subject to self-employment tax, which is where the savings come from.
Advantages: It can noticeably reduce self-employment tax once the business is consistently profitable.
Drawbacks: You’ll need to run payroll, file a separate business tax return, and set a salary the IRS would consider reasonable for your role. S corporations are limited to 100 shareholders, who generally must be U.S. citizens or residents, and only one class of stock is allowed. When profits are modest, the added accounting costs can outweigh the tax savings.
Consider it if: Your business earns steady profits well above what you’d pay yourself as a reasonable salary. Run the numbers with a CPA before you elect.
C Corporation (C Corp)
A C corporation is a fully separate taxpayer. It pays federal corporate income tax on its profits, and shareholders pay tax again on any dividends they receive. This is often called double taxation. Corporations also have the most formal requirements: a board of directors, bylaws, shareholder meetings, and corporate records.
Advantages: It offers strong liability protection, the ability to issue different classes of stock, and a familiar structure for investors. Profits kept in the business are taxed only at the corporate rate until they’re paid out. Stock in some qualifying small C corporations may also be eligible for a federal tax exclusion when it’s sold.
Drawbacks: It has the most paperwork and cost, and profits paid out as dividends are taxed twice.
Consider it if: You plan to raise venture capital, offer stock options to employees, or eventually go public.
What about a nonprofit?
If your organization exists for a charitable, educational, religious, or similar purpose rather than to earn profit for owners, you’ll typically form a nonprofit corporation with your state and then apply to the IRS for tax-exempt status, such as 501(c)(3). Nonprofits have no owners, and any surplus must go back into the mission.
Quick match
You’re working alone, the risk is low, and you’re still testing the idea
A sole proprietorship can work for now. Plan to form an LLC once you have regular clients or meaningful revenue.
You’re working alone and want to protect your personal assets
A single-member LLC.
You’re starting a business with one or more partners
A multi-member LLC with a written operating agreement.
Your business is consistently profitable and you’re paying a lot in self-employment tax
Keep your LLC and ask a CPA whether an S corporation election makes sense.
You plan to raise money from investors
A C corporation, usually formed in consultation with a startup attorney.
Your mission is charitable or educational
A nonprofit corporation that applies for tax-exempt status.
Frequently Asked Questions
Can I change my business structure later?
Yes. Many businesses start as sole proprietorships and form an LLC as they grow, and an LLC can elect S or C corporation taxation without forming a new entity. Converting between legal entity types, such as from an LLC to a corporation, is also possible but involves more paperwork and can have tax consequences, so get professional advice first.
Do I need an LLC to open a business bank account?
No. Sole proprietors can open business accounts, usually with a DBA registration and either their Social Security number or an Employer Identification Number (EIN). Keeping business and personal money separate is a good habit for every business, and it’s essential for an LLC or corporation.
Do I need an EIN?
You need an EIN if you have employees, operate as a partnership or corporation, or have a multi-member LLC. Single-member LLCs and sole proprietors without employees can often use their Social Security number, but many get a free EIN anyway to avoid sharing it with clients.
Which state should I form my business in?
For most small businesses, the answer is the state where you live and operate. Forming in another state can mean registering in your home state as well, which adds a second set of fees and filings. Startups seeking venture capital are the common exception.
Is an LLC or an S corporation better?
They aren’t direct alternatives. An LLC is a legal structure, and an S corporation is a way of being taxed. Many small businesses are LLCs that elect S corporation taxation once their profits are high enough to make the extra payroll and accounting worthwhile.
Next steps
Once you’ve chosen a structure, register with your state and set up your tax accounts. Our state-by-state business guide links to the official offices for every state. The IRS overview of business structures and the SBA’s guide to choosing a business structure are also useful references.
This page is general information, not legal or tax advice. Because the right structure depends on your income, location, and goals, talk with a CPA or business attorney before making a final decision.