Construction Industry: How to Decide on Your Entity Type?
The Construction Industry is poised to continue in growth opportunity as it recovers from the dip in demand during the height of the pandemic. This could be a great time for a business formation, but first one must consider what is the right entity type for your needs.
One of the biggest points of concern for construction-based businesses is personal liability. To protect yourself and your business analyzing the entity structure that best fits your company’s needs is imperative. Generally, there are five
entity formations for businesses to choose from sole proprietorships, partnerships, limited liability companies, and Corporations (S or C designations). Let’s look at each:
Sole-proprietorship or a “Doing Business As” is one of the least common entity types in the construction field. It is not recommended for liability reasons as it leaves the individual personally liable for any incidents that may occur. It can also be a costly choice as tax rates are higher since one is taxed on the individual level which can be as high as 37%.
Partnerships are owned by two or more persons that allows each partner to assume less risk than if they were the sole owner of the business. But this means t
hat general partners are held personally liable for any incidents and business obligations. In essence, we’re spreading the potential chaos from one person to multiple. Partnerships are considered a “pass-through entity” meaning that the income of the entity is treated as income of the investors or owners which can benefit the owners as double taxation can be avoided. This is not recommended as the liability is not limited and members of the construction industry must be weary of liability.
Limited Liability Companies (LLC) have been popularized because of their ability to provide protection to an owner’s personal assets. Claims against the company are limited to the assets owned by the business and the liability is limited to the company itself. LLCs can be a good choice because of the flexibility in membership and the flexibility to choose between a partnership and S corporation for federal tax reporting. Heavy disadvantages lie on LLC statutes not being uniform or recognized state-to-state (though recognized in California) as well as members not being involved in management decisions as they can be treated as silent partners. Though popular, it is not always the best choice for the construction industry.
Corporations are recommendable to construction businesses because officers and employees of the corporation cannot be held severally liable for business obligations. In California, the contractor corporation holds the license from the Contractor’s State License Board (CSLB) with the qualifier that one officer must be listed on CSLB records as the Responsible Managing Officer. A Corporation allows you to save money since LLCs are required to obtain an additional $100,000 surety bond, and holds that added benefit that it will continue to exist after the death or sale by original owners.
Choosing the right entity is a huge undertaking, our experts can give guidance and complete the business formation that fits you best.
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