Before the start of a new business, the
entrepreneur must meet several federal requirements.
This includes establishing the corporate structure of their new business, obtaining
an EIN, acquiring the required permits and licenses that are necessary for daily
business operations, and acknowledging the responsibility to pay different taxes.
A new business owner is obliged to follow these federal regulations, and failure
to comply can result in heavy penalties. The following information provides the
relevant steps needed for a new business owner to properly fulfill his/her companyâs
federal requirements.
1. Determine business structure
Establishing the corporate structure for a
new business is a major federal requirement.
The most common forms of corporate entities that a new business owner may consider
include Sole Proprietorship, Partnership, C-Corporation, S-Corporation, and Limited
Liability Company (LLC). When determining the legal entity of a company, one should
take into account both legal liability (the protection of a companyâs assets in
the event of debt) and the issue of taxation (the most suitable tax prospect for
a company).
A. Sole proprietorship
This is the most basic type of the legal structures available for
new businesses.
It only applies to a new business whose owners plan to run the company themselves
without any hired staff. In other words, when one is a sole proprietor, one will
be going into business on their own. Rather than pay corporate taxes, sole proprietors
are obliged to pay taxes on the profits made from their new business and are liable
for their own businessâ debt.
B. Partnership (general and limited)
When a new business is designated as a general partnership, two or more individuals
equally invest in a company and willingly share in the profits and losses of their
enterprise throughout the development of their company. This arrangement is made
possible by a partnership agreement contract, outlining the responsibilities of
each partner, the duration of partnership, and any management and financial arrangements
acknowledged by all existing partners. Rather than pay corporate income taxes, each
individual partner reports only their share of the total business income or losses
on their tax return. However, they do not have any liability protection, and they
are all equally responsible for any debt their business accrues. A common problem
of general partnerships is that one partner often does more work than the others,
leading to conflicts in the workforce.
In a limited partnership, there are general partners and limited partners involved.
The general partner(s) often assumes the main duties of the company on a daily basis.
The limited partners, on the other hand, have a more limited role- one with no managed
control of the company. Limited partnerships have special regulations and will often
require special state licensing. One disadvantage of limited partnerships is that
general partners do not have any liability protection.
C. Corporation (C and S)
There are two types of corporations that exist. The C-Corporation comprises of shareholders
who have voting rights and share in the wealth and losses of their company. A
new
business with a C-Corporation structure pays two types of taxes: the corporation,
as a whole, is responsible for corporate taxes, and shareholders are taxed separately
for dividends paid. Within this hierarchy establishment, stockholders have unlimited
liability protection and other fringe benefits, including the option to have different
kinds of stock.
An S-corporation is similar to the traditional C-Corporation; however, they are
exempt from paying corporate taxes. Instead, the shareholders of an S-corporation
must report their income on federal tax returns. Stockholders have limited liability
protection but have only one class of stock. S-Corporation guidelines are considered
strict. A company must first file for a C-Corporation structure and then apply for
an S-Corporation status, an opportunity that is only available every five years.
D. Limited Liability Company (LLC)
One of the most promising legal structures for a new business is the Limited Liability
Company. An LLC is organized in such a way that it combines several features of
corporation and partnership structures. Another advantage of the Limited Liability
Company structure is that the owner of the new business can select varying forms
of distribution of profits. Unlike a common partnership where the split is 50-50,
an LLC has much more flexibility.
2. Obtain an EIN
Federal requirements for a new business also include obtaining an Employer Identification
Number (EIN) for the company. This is usually issued by the IRS when a business
owner registers their establishment. An EIN functions in a similar way to a social
security number; but rather than be used to identify an individual person, it identifies
the company as a whole. If a
new business owner plans on hiring paid employees,
as in a partnership, corporation, or limited liability, they must register with
the IRS to obtain their EIN. This federal requirement also applies to new business
owners who plan to sell firearms, tobacco, or alcohol. In addition, existing companies
who wish to change their corporate structure must also apply for a new EIN. New
businesses that have a sole proprietor organization (no hired employees) need to
apply for an EIN only if they plan to distribute firearms, tobacco, or alcohol.
Otherwise, sole proprietors can simply use their own social security number when
filing their taxes.
3. Attain necessary business licenses
Obtaining essential business licenses is another federal requirement for a new enterprise.
Based on the type of business and the products and services offered to consumers,
an
entrepreneur may need to obtain several different licenses before their business
can legally operate and move forward. For example, if new business owners plan to
start a public transportation and trucking company, they need to obtain a license
from the Federal Motor Carrier Safety Administration. If an
entrepreneur plans on
becoming involved in the food industry and wants to open a restaurant, they need
to register the company with the Food and Drug Administration as well as the Bureau
of Alcohol, Tobacco and Firearms if they intend on serving alcohol to customers.
Likewise, an
entrepreneur may need the approval from the Environmental Protection
Agency if their business entails working with or using chemicals or toxic products.
Apart from these federal agencies, an
entrepreneur also needs to get the approval
of several state organizations before setting up their new business. This includes
the city council, the water and sanitation department, and the fire department.
4. Tax obligations for a new business owner
A new business must also comply with federal requirements of taxation. It is often
based on a
new businessâs corporate structure and the type of products and services
offered.
A. Self-employment tax
This type of tax only applies to sole proprietors. It is a social security and Medicare
tax the federal government withholds from the salary.
B. Federal income tax
Business establishments that designate themselves as sole proprietorships, partnerships,
S-corporations, and limited liability companies (LLC) are all responsible to pay
income taxes. Each of the mentioned entities is obliged to report their company
earnings and expenses to the Internal Revenue Service (IRS), filing estimated and
personal income taxes.
C. Franchise Tax
This tax only applies to corporations, whereby they are obliged by state and federal
law to file a franchise tax report and pay a franchise tax annually. This tax is
usually based upon location of the company, their corporate assets, and the number
of stock shares they issue to their employees.
Conclusion
Federal requirements must be met before any
new business owner can establish their
startup. After deciding upon the organizational structure of their company, new
business owners must obtain an Employer Identification Number. An EIN specifically
pertains to the companyâs unique identification number (similar to a social security
number) that is granted for tax purposes. In addition, depending on the industry
sector of the company, the new business owner must also obtain necessary licensure
and permits from federal agencies to ensure the public health and safety for their
prospective customers. In addition, they are also obliged to pay certain taxes depending
on their corporate structure. For more information regarding the licenses and permits
for a new business, please refer to
new business licesing article