So you’ve decided to create a company. Maybe your efforts have started to pay off at conventions and you’re beginning to see enough income to be concerned about a call from Uncle Sam. Perhaps you have big plans for the future, and you want to get the foundation set right from the start. It could even be a step of commitment, a sign to yourself that you’re ready for the next level in pursuing your dream.
Or maybe you’re just paranoid, like I am, and prefer to do things by the book.
Regardless of your reasons for wanting to form a company, one of the first questions you’re going to have to face is “What kind?”
Let’s have a look at your options.
We’ll be covering sole proprietorship, partnerships, limited liability companies, and corporations. The first three types are most likely for you, but heck, maybe you’ve got plans to become a massive, publicly traded institution. I’m not gonna try and stop you! Why? Because there is no one-size-fits-all choice here. You have to take a look at what you want to do, now and five or ten years from now, and choose an option that suits your style and needs best.
Here’s some key things to consider: Taxes, Liability, Control, and Next Steps.
One other thing to keep in mind — it is possible to change later. If you want to start out a sole proprietorship and then decide to transform your company into something else, you can. I’d recommend getting a lawyer and/or accountant involved in the process (because they’ll probably know the right people to talk to in those quaint lil’ ol’ organizations called the IRS and your local tax agency) but it is something you can do. So don’t get too worried about making the wrong decision. Just pick what makes the most sense to you now.
…Do you hate complication and paperwork with a passion?
Then sole proprietorship may be for you. In fact, you may already own a sole proprietorship and not even know it. Doing any work for profit, such as freelance work on the side, may automatically earn you the sole proprietorship label as far as a court is concerned…of course, don’t assume that also automatically gets you off the hook for meeting local registration requirements. Just because you might be defaulting there, doesn’t mean that the government won’t want their cut if you’re caught doing business without registration. Back taxes and penalties are not fun.
So what, exactly, is a sole proprietorship? It’s when a single person owns and operates a business. That’s it. You can have a day job separate from your business, or only do a small amount of work, but it’s still a business as long as you work for profit. It’s so easy to form this kind of company that you can do it on accident.
This type of company has what’s called pass-through taxation. That means your income and your expenses from you business get lumped into your personal income tax return. Basically, in the eyes of the government, you and your business are one. Income from your business is reported like a wage from any other job with a Form 1040 and a Schedule SE. The only thing that you’ll need to do in addition to that is file a Schedule C form that tracks your company’s profit and loss. So keep your receipts and track what’s going in and out! In fact, regardless of what type of company you form, I’d recommend going to your local bank and opening a business checking account. Makes it much easier to keep track of how your business is doing, and to fill out your paperwork. For some types of business, it even shields you from risk, but we’ll get to that later.
What’s appealing to a lot of people about pass-through taxation is that if your company takes a loss, which is very common in the first several years, it can be counted against your income (even day-job income) come tax time. Which can mean a nice refund check, when all is said and done.
Here’s the catch. Especially if you’re a devout believer in Murphy’s Law (which I am) and assume that the world is probably out to get you, and if the worst can happen, it will. If you get into legal or financial trouble, you’re on the hook for it. For all you’re worth. Like I said, in the eyes of the government, you and your business are one. So if your business racks up a lot of debt, defaults on a loan, gets into a legal fist-fight, or anything else that gets you in trouble with the bank or the law, you have to pay the price. Even if that means losing your home, your car, investments, or any other asset you’d like to hang onto.
Sounds a little scary, huh?
However, it may be a level of risk you’re willing to take on. After all, creating a webcomic is a lot less hazardous and expensive than, say, running a construction company. Or a day-care. It is unlikely that lives will hang in the balance of your decisions.
On the other hand, maybe you get into some serious drama over a contract and the lawyers get called in. Or you make a product with small parts and a kid chokes on them. Or perhaps you take out a loan (assuming a bank is even willing to play ball with a sole proprietorship) to make a big-budget product that becomes a big-budget flop.
Or maybe, like me, you’re just paranoid.
I can’t tell you what level of risk you should be comfortable with. Take a moment to think about the kind of person you are, the kinds of trouble you might get into, and the level of risk you’re willing to shoulder. Sole proprietorships are easy to form. This is one of the costs of doing business this way.
This one’s easy. Your company. Your rules. Your choices. Nobody questioning your authority…except for the voices in your head, and any lingering doubts you may harbor about the meaning of life and your purpose in it.
If this is the way you’ve decided to go, there’s very few hoops to hop through. Hit Google to see what your local governments want for registration. You’ll need to register your business, either under your own name or a name you make up, and you may need to do it for your city, county, state, and/or federal government. Look into getting a business license and/or seller’s permit when you register.
And that…is pretty much it. Keep an eye on your licenses to make sure they’re up to date. You may also need special permits for shows, but beyond that there isn’t much paperwork to do. Go forth! Make the money, apply your expenses to your tax forms, and try not to get in trouble.
Maybe the solo act isn’t your thing. You prefer to work with a friend, a spouse, a buddy, a partner in cr- er – totally legal business activities. Two (or more!) heads are better than one! You want to pool resources and talent, knowing the world shall tremble in the face of your combined might! If that’s the case, a partnership may be the way you want to go.
Most partnerships take one of two forms. A general partnership or a limited partnership. General partnerships are fairly common, whereas limited partnerships are fairly rare.
The big difference is this: In a general partnership, partners share risk and they share power. In a limited partnership, there will be one general partner (who has the risk and the power) and at least one limited partner (who contributes resources, but doesn’t take on risk or power beyond conditions they might impose in exchange to providing funding…but at the risk of losing their liability shield).
Oh, and one more thing. Limited partnerships require a lot more paperwork.
There’s also Limited Liability Partnerships, which is mostly to protect each partner from any shady dealings that the other partner might make. So if your prospective business “friend” is making what we in the biz call “the shifty eyes” you may want to consider this type of company…or, you know, run. Probably depends on how much you enjoy living in constant suspicion. On the EDGE, man! On the EDGE!!
I’m going to assume that most of the people reading this are going to be more interested in the general form, but if you really think a limited partnership is for you, there’s an entire book dedicated to the subject of partnerships here: Form a Partnership: The Complete Legal Guide published by Nolo.
Just as with sole proprietorships, general partnerships have pass-through taxation. Each will have a share of profit or loss applied to the tax return. Each partner will need to report their share on a Form 1040 with a Schedule E. You will also need to file a Schedule K-1 of Form 1065 to keep the government in the loop about the company’s losses or earnings for the year.
Here again, there’s a striking resemblance to the sole proprietorship. If the company gets in trouble, you AND your partner will have to put all your assets on the line. An extra complication with partnerships is that, should your partner make a decision independent of you that lands your company in a legal/financial tar pit, you’re also on the hook. You rise and fall together. Even if the idiot was the other guy.
How much control each person has is something that you and your partner can set by creating a partnership agreement. While it’s not legally required, it’s a darn good idea to sit down and create this document. Decide who is responsible for what, determine how profit/loss will be distributed, and address issues such as how people can leave or join the partnership. A little effort at the start could save you a lot of heart-ache later. For a little help, RocketLawyer.com can get you started.
If you choose not to create a document, your state may have a default set of terms that would apply to you in the event of a problem that needed legal consideration. Check to see if your state would apply a version of the Uniform Partnership Act (UPA) or Revised Uniform Partnership Act (RUPA). Why not just always rely on this? Well, you might not LIKE these generic terms. You might want to run things differently. If you make your own agreement, you can. They don’t have to be massive. Most are only a few pages long, with fairly simple language. YOU CAN DO THIS. JUST BREATHE. YOU WILL GET THROUGH THIS TOGETHER.
…And if you can’t, that maaaaay be a bit of a warning flag. Just sayin’.
One point of advice my lawyer gave to me about distributing ownership of a company: “Never split things 50/50.” Sometimes decisions need to be made, and if the split of power and responsibility is 50/50, it can complicate the decision making process significantly. Especially if there is a disagreement, and the ego gets involved.
I’m not saying that you can’t split things 50/50, but it’s a good point to consider. Especially since we cartoonists have notoriously outrageous egos.
The process for registering your business as a partnership is much the same as for a sole proprietorship. You’ll need to identify all owners (there can be more than two) and get all applicable licenses and permits for your city/county/state/country that apply. As before, a checking account for just the business, that all your partners can use, is also a good idea. And once you’ve done that, sit down and write that partnership agreement. Maybe even run it by a lawyer once you’re done. I know, it’s work and lawyers cost money. But you know what’s even MORE work and expense? Calling in lawyers AFTER something unexpected happens and you find out you wished the default rules of your state didn’t apply to you.
Limited Liability Company (LLC)
Are you a small fish that dreams of one day eating other fishes to become a big fish? Do you, like the small fish, also have an understandable fear of the vast and pitiless ocean that could, at any moment, hurl you against the horrid rocks of misfortune? Simultaneously, do you find the idea of tackling tasks built for big fish a little overwhelming?
It may be that you are suited to a Limited Liability Company.
Terrible aquatic metaphors aside, forming an LLC can be a good compromise for those of us that are concerned by personal liability, but are intimidated by (or can’t afford) the complication presented by going full-blown corporate. LLCs have several of the advantages of sole proprietorships and partnerships, but with the liability protection that corporations enjoy. You can be the sole owner (called a “member” for LLCs) or have many co-members. That said, they’re more complicated to set up, and some states have more barriers to creating an LLC than others. Where I live in Colorado, setting up an LLC was relatively inexpensive and not too difficult. That’s not the case in every state, and you may want to contact your local state licensing board to see what extra requirements, red tape, or fees you might have to pay before you jump on the LLC bandwagon.
This, too, has pass-through taxation. However, unlike sole proprietorships and partnerships, there are a few more decisions to make. You need to choose if you will file as a LLC that’s taxed like a corporation, or a LLC that’s taxed as a partnership. There are benefits to each option, but quite frankly I confess that the advantages/disadvantages are beyond me. Talk to your accountant. They will help you make the best choice for you and your business needs. And, just as you can change your type of business as you grow, you can also change your mind about how you file your taxes. So if you make a choice that has results you don’t like, you can adapt as you go.
The main attraction to the LLC is that it protects its members from financial and legal liability. So if you get into trouble, the loan sharks and lawyers can take everything your company has, but they can’t touch what YOU have.
Of course, this also comes with a lot more rules.
You can’t give personal guarantees on loans, because that means you are making the liability for it…well…personal. If you don’t keep your taxes paid, the government may go after the most active managing members of the LLC, so just because you are sheltered doesn’t mean you are immune. Especially from the IRS. If you royally screw something up and intentionally (or through extreme negligence) hurt someone during the course of doing business, you can still be held responsible. If you act against the interest of your own company and your fellow members (something you are legally obligated to pay attention to as part of your “fiduciary duty”) then you can be held liable for that. This doesn’t usually apply to making mistakes or a bad call, so you should be safe from that one as long as you aren’t, you know, embezzling or participating in fraud or doing THE CRIMES.
Most of these are fairly easy to avoid as long as you remain a law-abiding citizen. However, the final condition, and perhaps easiest to screw up, is you can’t allow yourself to blur the boundaries between the LLC and you. If you start acting like your company is an extension of your personal life, then you assume your personal responsibility. This is where getting a separate checking account becomes not just recommended practice, but a flat-out requirement. In addition, you’ll want to get a federal employer identification number. And make sure to keep a close and detailed eye on your books! The way my accountant put it was like this:
“Imagine that your LLC is your neighbor. A very close neighbor. You might know a lot about their personal affairs. You might know how much it cost them to install those new hardwood floors, or the landscaping. You might even give a gift or two to your neighbor, to help them out now and again. But you are never going to take money from your neighbor to pay for improvements to your own home. Their accounts are their own.”
You can have many members that own the LLC. Commonly, all members have a hand in managing the company, making it “member-managed.” You can also choose to elect specific members to manage, with other members taking a more passive, investor role. It’s all up to you and how you choose to set it up. And just like a partnership, the decisions of one member can impact all members.
You’ll be required to file documentation on how things are organized, so whereas setting clear terms on who does/owns/runs what is optional for a partnership, it’s mandatory for LLCs.
Here’s where it gets a little complicated. LLCs are more expensive to set up and maintain, although the extent to which the costs can rise will vary on your state. My recommendation? Find a local, small-business lawyer who can help you set things up and advise you. The lawyer I hired offered a set-up package for $300. While I could have filed everything on my own, I gained a lot of peace of mind from getting a professional who was familiar with the ins and outs of local law to advise me. I’ve since learned how to do most of the maintenance work myself, but having that initial help to start gave me a lot of confidence and security.
Like a minnow hiring a shark.
No, sorry, that’s a horrible analogy.
Maybe it should be an octopus instead?
REGARDLESS, the point still stands that I’d recommend enlisting some outside help if you decide to go the LLC route. You’ll need to file Articles of Organization, and that may need to go to a Secretary of State or a LLC filing office. Next up will be an operating agreement. The filing fees will vary from state to state, and in some cases they can be pretty steep. On top of that, you’ll be looking at annual fees for having the LLC. Check into those first before you jump into the LLC waters. Depending on where you live, it could be smooth sailing or tempest terrors.
Are you, deep down, the Wizard of Oz? Great and terrible? Do you deliver insights and direction from behind curtains through a complex series of levers and pyrotechnics? Does complication, red tape, and expense make little impact on your green towers and roads made of gold bricks?
Hey, you might be cut out for a corporation after all.
Corporations don’t have to be huge, although they can get that way. Mostly, it just means you’ll be bound by different legal and tax limitations, and your company will be a full independent entity. You might be able to direct it, but it has a life of its own. Which also means that its troubles are its own as well.
Unlike all the other types of companies we’ve covered, there is no flow-through taxation here. The company itself is subject to income tax, its financials completely disconnected from your own. You cannot count its expenses on your income taxes, nor profits or losses. Your company will have to pay federal and state corporate income taxes, and if you’ve decided to give your stockholders dividends, that will also be taxed. And I’m not even going to cover what forms you’d file. Just…hire a lawyer, Mr. Oz.
When a shareholder for a corporation, you’re protected from liability. You aren’t on the hook for its debts. A curtain hangs between you and the troubles of your company. Unless you commit a crime or blur the lines between yourself and your corporation, of course. Just as with the LLC, there are certain actions (most of them illegal or acts of gross malpractice) that might give a court cause to “pierce the corporate veil” and hold you accountable. Otherwise, you’re sheltered from those woes (although you could always lose your business assets and investments if things go south).
Basically? You send Dorothy, tool of the company, to deal with the green and cackling witches while you stay home and go on ballooning trips. Ah…The life of a Lollipop Guild stockholder.
CONTROL & NEXT STEPS
Control can become a complex process, especially since corporations can pursue investors, and can be both privately held or publicly traded.
One of the big advantages to having a corporation is that it’s much easier for them to raise funds. They can sell stock and can attract outside investors with greater ease. Of course, that can also mean more fingers in the pot, and more people to consider when it comes to making decisions.
Another thing to keep in mind is there are different kinds of corporations (S-corporations and C-corporations) which each have their own nuances.
Its complicated and quite frankly outside of my wheelhouse and expertise. Consult a professional. In fact, if you decide to go this route, it wouldn’t go amiss to take a look at the business courses offered at a local university (or online) and take a few. You’re going to need a lot more knowledge than I can provide in an article on the internet. So inform thyself, Oh Wizard!
What’s right for you?
Most artists will go for the sole proprietorship or general partnership. They’re easy to set up, fairly inexpensive, and as an artist you’re not exposed to too much risk. If your state is LLC friendly and you like a little extra layer of protective coating on your business dealings, then you might decide to go that extra level.
Regardless of what you choose, I encourage you to educate yourself further. Let this be only an introduction, not an end point. There are a lot of great resources out there. Classes, local entrepreneurial organizations, and books upon books upon books. I relied heavily on two texts in my personal library for this article, The Small Business Start-Up Kit published by Nolo, and Start Your Own Business from Entrepreneur Press.
It can seem a little scary and overwhelming at first, but knowledge is power. If you’re going to take this next step from hobbyist to businessperson, you don’t want to be stumbling in the dark. You owe it to yourself, and your future dream job, to arm yourself with information, and light your own path.
Robin Childs is addicted to storytelling, with specialties in world-building, character crafting, and language making. You can find the results of her storytelling pursuits at LeyLinesComic.com! Or drop a line on Twitter at RobinofLeyLines. If you are struggling with your own storytelling troubles, she offers a variety of coaching & reviewing services!