Why Change Your Business Type
As a business grows, things change. Here are some reasons a business might decide to make a change: Liability Protection: Many small businesses begin as sole proprietors and decide at some point to lessen their personal liability by forming a business entity which can offer some liability protection, such as an LLC or a corporation. Tax considerations: Most often, businesses change legal type for tax reasons. The most common change, for this reason, is from a pass-through entity to a corporation. A pass-through entity is a form of business in which the business doesn’t pay income tax. The owners of the business pay the taxes through their personal tax returns. These entities – sole proprietorship, partnership, S corporation, and limited liability company (LLC) – must pay taxes on the total net income of the business each year. A corporation may retain some of its income (keep it in the business), which lowers the business tax bill. Employees: If you have employees, it increases your business liability and complexity, and you might want to consider going to a business type that provides you with more liability protection. Change in Ownership: Adding owners, or having owners leave, may suggest a change in business structure. For example, if a sole proprietor wants to have a second owner, the business must change its structure, to a partnership, LLC, or corporation/S corporation.
Changing from a Sole Proprietorship
If you want to change your sole proprietorship to another business type, you’ll need to register your business with your state. You will need to close out business accounts and any contracts may need to be changed. Sole proprietorship to partnership or Limited Liability Company (LLC) The business must register as an LLC or partnership with the state in which it is doing business. Sole proprietorship to corporation. The process to change a sole proprietorship to a corporation is similar to the change to an LLC or partnership–filing registration documents with the state in which you are doing business. Sole proprietorship to S Corporation. The change of any business entity to an S corporation requires first the formation of a corporation, then a request to the IRS to elect S corporation status.
Changing Tax Type for an LLC
The limited liability company business form is a state entity, taxed for income tax purposes as either a sole proprietorship (one owner) or a partnership (multiple owners). For various reasons, you may decide to have your LLC taxed as a corporation or S corporation. The LLC structure and management stay in place and only the tax is different. The LLC may file an election form to be taxed as a corporation, or as an S corporation. The election form is different for each (use IRS Form 8832 to be taxed as a corporation and IRS Form 2553 to be taxed as an S corporation).
Business Type Change and Your Business Name
In some cases, changing your business legal structure will require a change in your business name. For example, most states require an LLC to include specific terms, like “LLC,” in the name of the business. If you change an LLC to a corporation, you will have to change the name to remove the LLC designation and add a corporate designation (Inc., for example). A change in business name will also require notifications to federal, state, and local licensing and taxing authorities. This article describes the process of changing your business name.
A Checklist for Changing Your Business Type
In addition to changing the business legal form, other notifications and registrations are needed.
You will need to change your registration with your state, following the specific state procedures. (Sole proprietorships don’t need to do this.) A new Employer ID Number (EIN) (tax ID for businesses) will probably be required. You will probably need a new Fictitious Name (DBA) statement, which you can get from your county. You will need to change the business information with your state taxing authority (for sales taxes, for example) and other state agencies. City and county taxing authorities, and licensing and permit agencies will need to be notified. And of course, you will need to notify everyone with whom you do business, including vendors, advisors, and customers.
