Business Formation Basics

If you have a business, why should you form a business entity? There are two big reasons – ASSET PROTECTION and CREDIBILITY.

Asset Protection: If you operate a business that is not registered with the Secretary of State, then you are operating as sole proprietor (or as a general partnership if 2 or more individuals). In the course of your business if you cause damage to property or a person, you could be sued. The defendant in the lawsuit will then be YOU. If a judgment is rendered for damages, it will be against YOU – resulting in YOUR personal assets (e.g. house, car, bank accounts, etc.) being used to satisfy the judgment.

Now take the example of the same business that forms a corporation, limited liability company or limited partnership or other similar entity authorized by the State. The defendant will now be the business entity and NOT you. Sure, the plaintiff can try and “pierce” the entity’s veil of limited liability but that is a tough battle if you follow the formalities.

Credibility: Many consumers are skeptical and looking out for potential fraud. The more your business looks legitimate, the easier it will be to convince a prospective client that you will follow through. The entity will be registered with the Secretary of State and that will certainly assist in inspiring trust.

Forming an entity is not complicated; however, customizing the entity to your situation will require input from your attorney and CPA. Bottom line, sole proprietor is likely not the best way to operate and the formation process should be customized for your intentions and goals.