Pick an entity

Your structure decides whether your personal assets back the business’s debts, how it’s taxed and what you file each year. Most people starting alone choose between a sole proprietorship and an LLC.

Two decisions, not one

The entity is a state decision: you form an LLC or corporation with your state. Taxes are a federal decision, with defaults you can change. S corporation status is a federal tax election on Form 2553; you never “form an S corp” with your state. The entity and tax election guide lays out both. Where you form is a third question: see forming in another state.

The structures

Sole proprietorship

The default if you do business alone and file nothing. The business’s debts and lawsuits are yours personally, and its income goes on your personal return. Simple and cheap, but banks can be hesitant to lend to one, and you can’t sell a share of it.

LLC (limited liability company)

Protects your personal assets, like your house and savings, in most cases if the business is sued or goes bankrupt. Members usually pay self-employment tax unless the LLC elects to be taxed as a corporation. By default, a one-member LLC’s income goes on your own federal return, and a multi-member LLC is taxed as a partnership. States charge to form one and often to keep it.

Corporation

Separate from its owners and taxed on its own profits, and in some cases owners pay tax again on dividends. The strongest liability protection, at a higher cost to form and run. It can raise money by selling stock.

Partnership

Two or more owners without an LLC or corporation. Limited and limited liability partnerships change who carries the liability. Profits pass through to each partner’s return. Your state’s registration step covers what, if anything, to file.

Nonprofit

A corporation for charitable, educational, religious, literary or scientific work. Tax exemption takes a separate filing with the IRS.

Do this

Count the owners. Two or more adds partnerships and multi-member LLCs to the options.
Weigh your personal risk. If the business could owe money, sign leases, hire or get sued, liability protection matters more.
Check your state’s rules and costs. Fees, yearly taxes and which professions can use an LLC vary by state. Your state’s Register your business page lists them.
Leave the S corp question for later. Once you know your expected profit, ask a CPA whether it saves you money. The election is due no more than 2 months and 15 days after the start of the tax year it applies to.
Write down your choice. The registration form, EIN application and bank all ask.

What you get back

A structure to register. If you have investors, partners, a licensed profession or real debt risk, take your questions to a CPA or attorney first.

Where your state differs

Arizona: In Arizona you form an LLC, a corporation or a nonprofit corporation. S corp, C corp and 501(c)(3) are federal tax choices you make afterward, not separate state filings. Source
California: An LLC here generally owes the $800 annual tax from its first year, and California doesn't let an LLC provide most services that need a state professional license, such as law, medicine or accounting. Source

Common questions

Is an LLC the same as an S corp?

No. An LLC is an entity you form with your state. S corporation status is a federal tax election, made on Form 2553, that an eligible LLC or corporation can choose later.

Can a sole proprietor elect S corp status?

Not as a sole proprietor. You'd form an LLC or corporation with your state first, then file Form 2553.

Does a single-member LLC file its own federal tax return?

Not by default. For federal income tax, its income goes on the owner's return unless the LLC elects to be taxed as a corporation.

Which is better, an LLC or a sole proprietorship?

It depends on your risk and your state's costs. A sole proprietorship is simplest, but you're personally liable for its debts. An LLC protects your personal assets in most cases, and your state charges to form and keep one.