The type of business you form will determine how much profit you earn, how much you pay in taxes, how operations decisions are made, how much control you have…and your legal needs and responsibilities.

When starting a new business, you must first decide which legal form of ownership will be best for you and your business. Do you want to be your own boss and operate as a sole proprietorship? Or would you rather share the responsibilities of ownership and create a corporation or partnership? The answer to questions such as these are crucial to ask yourself before setting up your business model.

Here are a few additional questions you should be asking yourself as well:

  1. Do you have the required skills to run a business?
  2. How much control do you want over your business?
  3. Are you willing to share any of the responsibilities?
  4. Are you open to sharing profits?
  5. How do you plan to finance the company?
  6. Do you want to avoid certain taxes?
  7. How important to you is it that your business survives?
  8. If you have partners, do you think you’ll be able to get along with them?
  9. How much personal liability are you willing to accept? Will you share liability?

No one business model will give you everything on your wish list. Each form of ownership has advantages and disadvantages so you’ll need to decide which offers the features most important to you. Before selecting a business structure, it’s best to consult an attorney as each structure carries with it unique legal and tax consequences.

Let’s take a look at the different forms of business models, as described by the U.S. Small Business Administration, along with formation steps, tax obligations, and the pros and cons of each.

Sole Proprietorship

The most common—and the simplest—type of business ownership is the sole proprietorship. It is an unincorporated business owned and run by one individual with no distinction between the business and the owner. The owner is entitled to all profits and is responsible for all business debts, losses, and liabilities.

If the business is conducted under a name other than the surname of the owner, an assumed name certificate (a DBA or “doing business as”) should be filed with the state or county. A sole proprietorship may not be owned by more than one person and provides no protection against liability to the owner.

Sole proprietorship income is reported on Schedule C of the owners Form 1040. Profits are treated as income of the owner and losses are deductible to the owner.

Common types of sole proprietors are writers, independent contractors, freelance photographers, salespeople working with a commission-only structure, independent contractors, or those working on a contract basis.

Forming a Sole Proprietorship

No formal action is required to form a sole proprietorship. If you are the only owner, this status automatically comes from your business activities and no formal action is required. In fact, you may already own one without knowing it. If you’re a freelance graphic designer, for example, you’re a sole proprietor. But like all businesses, you still need to obtain the necessary licenses and permits.

Sole Proprietor Taxes

Because you and your business are one and the same, the business itself is not taxed separately—the sole proprietorship income is your income. The IRS asks that you use this chart to determine which forms you are required to file.


  • Formation is easy and inexpensive: A sole proprietorship is the simplest and least expensive business structure to establish.
  • Complete control is yours: Because you are the sole owner of the business you have complete control over all decisions.
  • Offers simplified tax preparation: Your business is not taxed separately, so it’s easy to fulfill tax reporting requirements.


  • The unlimited personal liability: Because there is no legal separation between you and your business, you can be held personally liable for the debts and obligations of the business. This risk extends to any liabilities incurred because of employee actions.
  • It can be hard to raise money: Sole proprietors often face challenges when trying to raise money. Because you can’t sell stock in the business, investors won’t often invest. Banks are also hesitant to lend to a sole proprietorship because of a perceived lack of credibility when it comes to repayment if the business fails.
  • There’s a heavy burden: The flipside of complete control is the burden and pressure it can impose. You alone are ultimately responsible for the successes and failures of your business.

Limited Liability Company (LLC)

An LLC is a hybrid type of legal structure that provides the limited liability features of a corporation and the tax efficiencies and operational flexibility of a partnership. The “owners” of an LLC are referred to as “members.” Depending on the state, members can consist of a single individual (one owner), two or more individuals, corporations, or other LLCs.

Unlike shareholders in a corporation, LLCs are not taxed as a separate business entity. Instead, all profits and losses are “passed through” the business to each member of the LLC. Members report profits and losses on their personal federal tax returns just like the owners of a partnership would.

Forming an LLC

While each state has slight variations to forming an LLC, they all adhere to a few general principles:

  • Choose a business name: There are thee rules your LLC name should follow: 1) it must be different from an existing LLC in your state, 2) North Carolina law requires that an LLC name contain the words “limited liability company” or the abbreviation “L.L.C.” or “LLC,” or the combination “ltd. liability co.,” “limited liability co.,” or “ltd. liability company,” and 3) it must not include words restricted by your state (such as “bank” and “insurance”). Your business name is automatically registered with your state when you register your business.
  • File articles of organization: The “articles of organization” is a simple document that legitimizes your LLC and includes information like your business name, address, and the names of its members. The filing fee in North Carolina is $125. The Secretary of State’s website has a simple, fill-in-the-blank form for the articles of organization. Instructions are included. For general information, see the Articles of Organization page.
  • Create an operating agreement: North Carolina does not require an operating agreement to form an LLC, but executing one is highly advisable. There’s no set criteria for the content of an operating agreement, but it typically includes topics such as how meetings are conducted, how the company will be managed, what capital contributions are required from each member, and how profits and losses will be allocated. The operating agreement does not need to be filed with the state.
  • Obtain licenses and permits: You can view North Carolina’s requirements at the Secretary of State’s website.
  • Other requirements: North Carolina LLCs must file an annual report with the Secretary of State every year after the date of formation. The filing fee is $200. The form can be found online at the Online Annual Report Editor page.

LLC Tax Obligations

In the eyes of the federal government, an LLC is not a separate tax entity, so the business itself is not taxed. Instead, all federal income taxes are passed on to the LLC’s members and are paid through their personal income tax. While the federal government does not tax income on an LLC, some states do, so check with your state’s income tax agency.

Since an LLC is not recognized as a business entity for taxation purposes, all LLCs must file as a corporation, partnership, or sole proprietorship tax return. Certain LLCs are automatically classified and taxed as a corporation by federal tax law.

Learn more about your tax obligations as an LLC.


  • Limited liability: Members are protected from personal liability for business decisions or actions of the LLC. If the LLC incurs debt or is sued, members’ personal assets are usually exempt. This is like the liability protections afforded to shareholders of a corporation. Keep in mind that limited liability means just that—members are not necessarily shielded from wrongful acts, including those of their employees.
  • Less Recordkeeping: An LLC’s operational ease is one of its greatest advantages. Compared to an S Corporation, there’s less registration paperwork and start-up costs are lower.
  • Shared profits: There are fewer restrictions on profit sharing within an LLC, as members distribute profits as they see fit. Members might contribute different proportions of capital and sweat equity. Consequently, it’s up to the members themselves to decide who has earned what percentage of the profits or losses.


  • Limited life: In many states, when a member leaves an LLC, the business is dissolved and the members must fulfill all remaining legal and business obligations to close the business. The remaining members can decide if they want to start a new LLC or part ways. However, you can include provisions in your operating agreement to prolong the life of the LLC if a member decides to leave the business.
  • Self-employment taxes: Members of an LLC are considered self-employed and must pay the self-employment tax contributions toward Medicare and Social Security. The entire net income of the LLC is subject to this tax.


A corporation (sometimes referred to as a C corporation) is an independent legal entity owned by shareholders—the corporation itself, not the shareholders that own it, is held legally liable for the actions and debts the business incurs.

Corporations are more complex than other business structures because they tend to have costly administrative fees and complex tax and legal requirements. Because of these issues, corporations are generally suggested for larger, more established companies with multiple employees.

For businesses in that position, corporations offer the ability to sell ownership shares in the business through stock offerings. “Going public” through an initial public offering (IPO) is a major selling point in attracting investment capital and high-quality employees.

Forming a Corporation

A corporation is formed under the laws of the state in which it is registered. To form a corporation, you’ll need to establish your business name and register your legal name with your state government. If you choose to operate under a name different than the officially registered name, a DBA is needed. State laws vary, but generally corporations must include a corporate designation (Corporation, Incorporated, or Limited) at the end of the business name.

To register your business as a corporation, you typically need to file articles of incorporation with your state’s Secretary of State office. Some states require corporations to establish directors and issue stock certificates to initial shareholders in the registration process. Contact your state business entity registration office to find out about specific filing requirements in the state where you form your business.

Once your business is registered, you must obtain business licenses and permits. Regulations vary by industry, state and locality. Refer to our Business License and Permit guide to find a listing of federal, state and local permits, licenses and registrations you’ll need to run a business.

If you are hiring employees, read more about federal and state regulations for employers.

Corporation Taxes

Corporations are required to pay federal, state, and in some cases, local taxes. Most businesses must register with the IRS and state and local revenue agencies, and receive a tax ID number or permit. Unlike sole proprietors and partnerships, corporations pay income tax on their profits. In some cases, corporations are taxed twice: First, when the company makes a profit, and again when dividends are paid to shareholders on their personal tax returns.

The IRS asks that you use this chart to determine which forms you are required to file.


  • Limited liability: When it comes to taking responsibility for business debts and actions of a corporation, shareholders’ personal assets are protected. Shareholders can generally only be held accountable for their investment in stock of the company.
  • Ability to generate capital: Corporations have an advantage when it comes to raising capital for their business: The ability to raise funds through the sale of stock.
  • Corporate tax treatment: Corporations file taxes separately from their owners. Owners of a corporation only pay taxes on corporate profits paid to them in the form of salaries, bonuses, and dividends, while any additional profits are awarded a corporate tax rate, which is usually lower than a personal income tax rate.
  • Attractive to potential employees: Corporations are generally able to attract and hire high-quality and motivated employees because they offer competitive benefits and the potential for partial ownership through stock options.


  • Time and money: Corporations are costly and time-consuming ventures to start and operate. Incorporating requires start-up, operating, and tax costs that most other structures do not require.
  • Double taxing: In some cases, corporations are taxed twice: First, when the company makes a profit, and again when dividends are paid to shareholders.
  • Additional paperwork: Because corporations are highly regulated by federal, state, and, in some cases, local agencies, increased paperwork and recordkeeping burdens are associated with this entity.

So far, we’ve only examined three of the most common types of business models. In Part II of this article, three additional models—partnerships, cooperatives, and S Corporations—will be discussed. Stay tuned!

Structuring the way in which your business will be run and organized can be a daunting task. Trying to choose between registering as a sole proprietorship, general partnership, corporation, or limited liability company? Let Oliver & Cheek, PLLC guide you in these types of decisions, the creation of job titles and duties, and the mapping of future expansion. For more information, call (252) 633-1930 or visit

(Sources: U.S. Small Business Administration; NC Department of the Secretary of State; Oliver & Cheek, PLLC; Entrepreneur Magazine; Internal Revenue Service; Albuquerque Business Law; Fryar Law Firm P.C.; Fundera, Inc.; and Virginia Tech and the Saylor Foundation.)