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The Business Suit That Never Looks Good

A CYA primer for you and your company

By Joann Yeh Litt
Published: Dec 05, 2007

Seems like lawsuits have become the new black. Thanks to the McDonald’s coffee woman and the DC judge’s $54 million pants, no perceived wrong is too petty to sue over. So, while you may think your new business is going to be perfect, and the way you run it won’t result in any problems, some opportunistic troll may think otherwise. Many a small business owner have been personally wiped out by a single lawsuit.

Protecting your business and ass(ets) means setting the right corporate structure before you even open up shop. But deciding which of the alphabet soup of business entities you should use takes some consideration. Each structure has different levels of protection and tax implications, so take your time and go through your options.

A quick primer on some corporate structures:
C Corp: regular corporation where owners are protected from liability and the business is taxed

S Corp: owners protected but taxes are reported on personal income tax return; profits and losses can be allocated only in proportion to each owner's interest in the business

LLC: limited liability company: owners protected and taxes reported on personal income tax return; more flexible profit and loss allocation

PC: professional corporation: owners all members of the same profession and have no liability for other members’ malpractice:

GP: general partnership

First, decide who the owners are. Is it just you or is it a group thing ( and yes, two can be a group)?

Next, assemble a strong team of professional advisors. Find an experienced corporate attorney, a tax advisor (at least a strong accountant) and a good insurance broker. “The principle here is that the corporate, tax and insurance issues need to be worked out simultaneously from day one,” says corporate attorney Todd Brody. “They all interplay with each other. Many people don’t realize that tax issues are inextricable from the process and are some of the biggest factors in your decision making.” Some structures like an S Corporation, for example, allow you to report the company’s loss or profit on your individual tax return while others require the business to file separate taxes. What’s best for you can only be determined with the help of your team.

The first question in your analysis should be “Should I form an entity and why?”

If you’re the only owner, your main concern is going to be liability. “For many small businesses, more of your real liability protection is going to come from insurance. Insurance is as important, if not more, than incorporation in this case,” says Brody. That said, while incorporating may not have any significant benefit for a single owner, there’s no harm in doing so if costs (filing fees and tax returns) aren’t prohibitive.

For multiple owners, one of the primary reasons to form a business entity is to provide a formal way for you and your business partners to spell out and coordinate all aspects of your relationship, from management to finances. Liability is also a major concern because a business owned by two or more people is, by default, a general partnership. In a general partnership, all members are personally liable for the business’s debts as well as all liabilities incurred by any other member. That makes it the worst of all possible arrangements.

Second, what are the biggest risks of your business? A bookstore will obviously have fewer risks than a wine bar. No matter how “benign” your product or service, however, every business MUST have insurance. A loose book that gives a customer a concussion could easily become a huge nightmare. A good broker will help you find the best insurance that will cover those risks.

So, while this may sound like a lot of work, letting your dream kill your assets and sanity isn’t worth it. You can never be too careful when plaintiffs are hiding everywhere, ready to pounce.

Joann Yeh Litt was a self-loathing law firm hack before deciding it was more fun to write than to argue. She still argues quite frequently with family, however.

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