When Is It Time for a Small Company to Alter Its Legal Structure?

The majority of small firms begin as sole proprietorships or general partnerships. These default legal structures serve as a foundation for enterprises that begin before all of the parts are in place. Although these default forms may be enough for small enterprises, a different corporate structure may be preferable as your firm matures or grows. Although it will require time and work to establish a corporation or limited liability business (LLC), the rewards might far exceed the expenditures. Here are answers to frequently asked questions regarding modifying a company’s legal structure.

What you’ll discover:

When should I think about altering my company structure?
Would shifting corporate formats make it simpler to get financing?
How does the structure of a firm influence liability?
Would my taxes increase if I switch structures?
Will I lose control of my company if I incorporate or restructure it?

When should I think about altering my company structure?

Many small company owners do not think about whether they should employ a different legal structure at first. Sole proprietorships and general partnerships are created by default when a person begins a company alone or with a partner and do not need any special filings or extra work. Similarly, many individuals begin their enterprises as a side project or pastime. They only think about changing their firm structure when it begins earning money, expands, or hires more employees.

Changing the structure of your firm may make sense as it expands or changes its emphasis. Changing structures may be financially or legally beneficial if you begin to hire team members or your new enterprise becomes a full-time job. If your company obtains large assets, you should think about making a shift.

A structural change may help a variety of company operations, including:

Returning Taxes
Getting funding
Liability restraint

Incorporating or forming an LLC can also demonstrate to clients that your firm is a reputable enterprise, which may help you extend your client base.

Would shifting corporate formats make it simpler to get financing?

In general, yes. Banks and other lenders may prefer funding a firm with a distinct legal structure if you need a loan to help your business develop or acquire assets. The act of incorporating displays organization and desire.

Similarly, potential investors may be more interested in incorporation or another kind of structure than than a sole proprietorship. This is due to the fact that you may sell a share of your company in return for financial investment. This sort of investment opportunity simply does not exist if your firm is formed as a single proprietorship.

How does the structure of a firm influence liability?

There are various reasons why you should convert your business from a sole proprietorship to an LLC, corporation, limited liability partnership, or other legal form. The most essential advantage is that all of these arrangements minimize your responsibility. Assume your company is sued or is unable to pay its obligations. Whether you operate as a sole proprietorship or general partnership, creditors or others may come after your personal assets to meet those debts. It is not typical of any other sort of legal system.

Creating a legal structure that restricts liability is a smart idea regardless of how small your company is, but it gets more critical as the organization expands.

Would my taxes increase if I switch structures?

A C-Corporation, for example, may be taxed twice: first at the corporate tax rate and again when you remove dividends from the corporation. This structure will not work for many small or medium-sized enterprises.

If you pick a pass-through structure, such as an LLC or S-Corporation, your tax liabilities may not alter much. You gain the advantage of restricted liability without having to pay any additional income taxes under these arrangements. It’s possible that you won’t even need to submit a separate tax form for your firm.

Will I lose control of my company if I incorporate or restructure it?

The only way you will lose ownership of your company is if new investors have a voice in how you run it. Shareholders or firm members, for example, may influence your day-to-day operations.

But, if your investors merely have an investment interest and no management or voting rights, there may be no changes. In such case, management does not change, but you may still have expectations to satisfy when you bring on investors.