Incorporating Companies

Incorporating a company is an important legal and financial step toward ensuring the viability of a business. A corporation, that is, a company that has been incorporated, is simply a business that has been recognized by the government as a separate legal entity. In other words, for legal and tax purposes, a corporation takes on many of the rights, liabilities, and privileges that previously would have been the responsibility of the owners and managers of a business.

This legal arrangement acts as a buffer between the legal responsibilities of a business and its owners. The corporation can own property, pay taxes, take out loans, open bank accounts, sue or be sued, and enter into contracts just as if it were an individual. Most, if not all, liability for these actions then falls on the corporation itself.

Tax Advantages to Incorporation

Apart from the obvious advantage of a legal shield between business owners and individuals who might sue the company, incorporation affords several legal and practical advantages to a business owner.

In terms of tax advantages, there are several factors to keep in mind.

First and foremost is the scope of the business you are planning to incorporate. If the company is going to operate in nationally, then it may be beneficial to incorporate in a state other than your own.

Nevada and Delaware have been identified by many as the ideal states in which one can incorporate a business. They both have very low or non-existent franchise taxes, incorporation fees, and state income taxes. However, there are significant tax advantages in any locality, and it is usually much easier to form a corporation in your home state.

The primary tax benefit for a corporation comes in the form of deductions. Corporations are allowed to deduct many more business expenses than unincorporated companies. These deductions can include health insurance and pension plans for employees, as well as travel and entertainment expenses. In most states, these advantages apply even if the corporation only has one employee.

Financial Advantages

Banks and other lending institutions tend to look more favorably on corporations than on individuals and partnerships because incorporated companies give the impression of having a long-term business plan, and is therefore a safer investment. Independent investors often share this sentiment. Individual investors who buy stock in a corporation are shielded from liability and know that there is less risk than investing in an unincorporated business.

A corporation gives a company a certain amount of legitimacy with the public. Customers are more willing to deal with a corporation because there is an expectation of legal and financial accountability. A corporation will, as a rule, continue after its owner has died, and that it will meet established expectations. Therefore, even if some tragedy may befall the owner of a corporation, the corporation will still exist to fulfill its debts.

Disadvantages and Restrictions to Incorporation

While there are numerous legal and financial advantages to incorporating a company, not every venture is eligible. In general, a corporation must either show that it is making a profit, or is taking the necessary steps to make a profit, to qualify for many deductions. An activity that is more of a hobby than a true business should not be incorporated. Similarly, if you plan to mix your business and personal finances in the same accounts, you may lose many if not all of the legal protections a corporation can give you.

Most states require a fee of between $20 and $100 to incorporate a business. This fee qualifies the corporation to do business in that state. Therefore, if a business were incorporated in Nevada, but planned to do business in California, other fees and legal forms would have to be submitted to the state of California. These fees and legal expenses must be weighed against any tax gains before deciding whether incorporation is a worthwhile investment.