There are three main kinds of organizations. There are more, but these are the most important.
Sole Proprietorship
This is the most simple. A sole proprietorship means you are your company.
The owner is personally liable for any lawsuits that are filed against the business. So if at any point someone sued you and won, they could take your car, your house, or money from your personal bank account. However, an advantage to this is that you don’t necessarily have to to file with the state to become a sole proprietor. When the time comes for you to pay taxes, you’re just going to use your social security number as your identification number; it identifies your business as well as you personally.
Another advantage to a sole proprietorship is it’s extremely easy to create and operate. It’s not hard at all to form one. Lastly, the owner reports business profit and loss on their personal tax return. It’s not as if you are paying tax for an entire company, but as if you got a paycheck from a company and are paying off of that.
This is how I started off, and it’s what I recommend because it is very cheap. One of my clients in Washington was getting their Amazon store set up, and she said the fee to file as a sole proprietorship in that state is only $35.
Keep in mind, whatever company you are, if you are shipping items to someone in the same state, your state will most likely require you to collect sales tax on that order. You can call Amazon and ask them how to go about paying those taxes, which is what I do. But that is how I would start, as a sole proprietor, where your EIN or tax ID number is simply your social security number.
Limited Liability Company (LLC)
I started off as a sole proprietorship and then moved up to a LLC. The reason I didn’t start as it is because they are more expensive. It was around $240, and I had very little money. The advantage to being an LLC is you get pass-through taxes. You don’t need to file a corporate tax return. If you’re a full-blown corporation, you basically get taxed double; once for the shareholders, and once on the corporate income. With an LLC you don’t do that. If it was me and my wife and business partner in the LLC, we report our share of profit and loss on our individual tax return and get to avoid double taxation.
Another advantage is there’s no double residency requirement. You don’t have to be a US citizen or permanent resident of the US to file as an LLC.
A third advantage is you have legal protection. If someone tried to sue you, and God forbid, they won, they can only sue your business assets. That’s your business account, your business vehicles, your business assets and properties. They can’t touch your personal car, personal bank account, dog, kids, etc. The owners have only limited liability for business debts and obligations. You have a lot more protection than a sole proprietorship.
It’s similar to car insurance: you have to have liability. If you hurt someone else, you’re liable to pay for their car. That’s a form of limited liability, because they can not take your personal items or property if they want to sue you.
Another plus side is enhanced credibility. Partners, suppliers, lenders, and investors will look more favorably on your business when you’re an LLC as opposed to a sole proprietorship. It’s so easy to become a sole proprietor that they won’t take you as seriously. It’s a great way to start if you’re just selling on Amazon, eBay, or starting your own online store. Don’t freak out about limited liability. Chances are it is very unlikely someone will sue you when you are just starting out; it’s only when you start growing that people start noticing you, and either become your friends or enemies.
There are disadvantages to becoming an LLC. One of those is you have limited growth potential. It’s not going to affect you very much on Amazon eBay, but if you start an e-commerce or retail store, you cannot issue shares of stock to attract investors. There is also a lack of uniformity; LLCs are treated differently in different states. If you become a large company that is growing in different corporate offices in different states across the US, you’re going to have to work around a lot of laws and organization rules because different states have different ones.
The last disadvantage is self-employment tax. Your earning can be subject to self-employment tax. However, most businesses do really well when they start off as sole proprietors and then move to LLCs, especially if you have different partners in your business who are not family members.
Corporation
The last type of business I want to mention is a corporation. Corporations are a little different, because if a company goes public and opens stocks, they are required to be corporations in most cases. They also have limited liability, so someone cannot take your personal Honda or Mercedes, they cannot take your house or money from your personal bank account. This applies to the owners, the officers, the shareholders, even the employees.
Another advantage a corporation has is perpetual existence. Let’s say I’m the owner of a c-corporation and I leave the company. The company continues; it’s not depending on one person to continue. It also has extremely enhanced credibility. You gain a lot of respect among suppliers and lenders and can negotiate really good deals with them.
Corporations also have unlimited growth potential. The sky is the limit thanks to the sale of stock. There are no limit to shareholders. Once you have 10 million in assets and 500 shareholders, you’re required to register with the Securities and Exchange Commission under the Securities Exchange Act of 1934.
There are some tax advantages, but the biggest disadvantage is double taxation. Your revenue is going to be taxed at a company level as well as at a shareholder dividend level. It’s expensive to start with; there are a lot of fees that come with filing. Corporations have more regulations and formalities to go through. You’ll likely need a lawyer to help with all the paperwork.
If you’re exploding and growing far outside of Amazon and eBay, a corporation is a great idea.
Out of all three of these, LLC is my favorite, simply for the fact that this time in my life fits it best. Remember to keep in mind that starting as a sole proprietor makes total sense. When Amazon asks for your EIN number, that is your Social Security Number if you’re a sole proprietor.
My last note is that there is a lot of confusion over the difference between a state ID number and a federal ID number. Your Employer Identification Number is your tax ID for the government. It’s what the IRS needs in order to file your taxes. When you become an LLC or C-Corporation, you’re going to apply to the IRS for a tax ID. But when you’re a sole proprietorship, you use your personal Social Security Number.
I hope this has been helpful. A lot of time is wasted on Amazon trying to figure this out and what numbers to put there, so I hope this saves you some time.
