Businesswoman with headphones smiling during video conference. Multiracial male and female ... [+]
I never really wanted to run a business. I thought of myself as a writer, not a manager. Incorporating screamed “management” to me.
However, I do now own an LLC, and to be honest, it still feels like I’m a writer. Or a lover. Or any of other things from that Meredith Brooks song. Several things led to my change of heart. I heard of a writer friend getting sued for libel.
While nothing ever came of the lawsuit, the idea of losing my net worth over a lawsuit made me nervous—I worked hard for that $79! My taxes also became something of a disaster, and an account friend told me I was being penalized for not incorporating. And so, I decided to become a Limited Liability Corporation.
Benefits Of Incorporating
If you’re a freelancer or independent contractor and you’re considering becoming one of the 40% of self-employed people who are incorporated, you’ll be pleased to know there are quite a few benefits, including but not limited to:
1) Liability protection: If you are concerned about your personal liability for your business activities, incorporating can provide you with liability protection. Basically, incorporation creates a legal separation between you and your business, which can help shield your personal assets in the event of a lawsuit . If you’re not incorporated and a client sues your business—or if you accumulate business debts—your personal assets (such as your savings, home, or Apple Products) are at risk.
2) Tax advantages: Incorporating may provide tax benefits, such as the ability to deduct certain business expenses. I deduct almost all of my cold brew, because honey, it’s a business necessity. Incorporation can also lower your self-employment tax, which is what my accountant friend was saying when she said I was getting unfairly penalized.
3) Credibility: Incorporating can also help boost your credibility with clients and business partners. To be fair, I don’t think anyone has ever expressed being impressed that I had an LLC, except one first date. And honestly? I thought it was weird he knew that about me. Still, depending on what industry you’re in, having an LLC or S Corp can make you look more legitimate.
4) Growth Opportunities: If you plan to hire employees in the future, incorporating can provide you with the right legal framework necessary. It can also help position your business for future investment or acquisition opportunities (if anyone wants to buy Ginny Hogan LLC, please reach out!). It’s all well and good to Venmo random friends for making one online ad for your new Etsy store, but eventually, you may want some paperwork. Or need some paperwork. The IRS is annoying like that.
Downsides Of Incorporating
However, it’s not all fun and games. Nothing called “Limited Liability Corporation” would be. In many ways, it’s a matter of timing.
“I recommend that people incorporate into an S Corp when the business is serious—not a one time thing—and their income is above a certain level,” says Zhanna Kelley, CPA. “The level depends on the state they live in. In New York City, we have a 8.85% S Corp tax. Therefore, I suggest they incorporate when their income is $100,000+. In California, there is an S Corp tax of 1.5%, so even at $50,000, there are some notable savings. It really depends on their state of residence.” Because of the downsides, the Freelancer’s Union recommends people not consider incorporating until they earn more than 20% of their income from freelancing.
Others say that the decision is about an individual’s risk tolerance. “Your risk tolerance for remaining unincorporated may be higher than mine or lower,” says Steven Winters-Bona, CPA. “You may not have as much to lose as other people, so you may be willing to stay unincorporated longer.” And indeed, some people do choose to stay unincorporated for longer because of the downsides, which include:
1) Increased costs: You do have to pay fees to register your business with the state—some of which might be ongoing. Your tax benefits only help you if you earn a certain amount of money, so it might not be worth incorporating until you’re sure it will save you cash. And depending on how you incorporate, you might not get those benefits. However, it won’t always. “When people set up an LLC they think there is a tax benefit,” says Kelley. “There is not. An LLC has the same taxation as a sole proprietorship (the de-facto setting for a business.”
2) Administration: As a business entity, you will have more administrative responsibilities, including maintaining corporate records, filing annual reports, and holding regular meetings. I’ve learned to love administration because it enables me to feel productive while using a different part of my brain, but I can’t pretend everyone is exactly as nerdy as I am.
3) Less flexibility: Incorporating can make it more difficult to make changes to your business structure, such as adding or removing partners or changing the ownership structure. Additionally, there may be restrictions on the way you can distribute profits and pay yourself. If you want to be able to change your business as often as I change hair colors (every three weeks), you may not want to incorporate.
At the end of the day, there are four upsides to incorporating and three downsides, so if you do the math...I’m kidding, of course. I’d never ask you to do math. Consider the type of business you have and how much administration you’re willing to take on this year—there could be some upside to forming an LLC, but it’s your choice to make.
