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 October 05, 2020

Behaving like a Legal Business Entity for Protection

Two female small business owners reviewing business formation options

Assign Your Business Assets to Your Entity

In the case of some founders, the task of forming an entity for their company is undertaken early enough that they need not worry about making changes to a business not yet off the ground. But for others that have operated previously as a sole proprietorship, there are some things to be aware of when creating an entity for your pre-existing business.

You Have an Entity for Your Business; Now What?

First, it’s important to note that sole proprietors can set up an entity at any point, so you don’t have to worry that it’s too late if you have been doing business already. However, it’s advisable to have either a legal entity to protect yourself from personal liability.

If you’ve been operating a business as a sole proprietorship for some time, you’ve likely acquired assets for the company, and while you may think of them as solely for the business, they in fact belong to you as an individual. And although an entity is a necessary step, it isn’t a magic tool to transform your business automatically. In fact, the assets remain in your name until you transfer them to the corporation or LLC.

Once transferred, a strict line between the personal and the corporation exists, and it’s vital to keep assets separate between the two. And for those that are starting their business as either a LLC or a corporation, it’s critical to keep your business assets and liabilities separate from your personal affairs. For example, you must maintain a separate company bank account and not commingle your personal money with the business’s funds. If you are using credit cards, set up a proper expense reporting system to claim business reimbursements. Without a clear line between your company and personal bank accounts, you run the risk of losing the legal protection of the corporation or entity.

Anything bought in the corporation’s name and for its use remains the property of the corporation, even if you are the creator and owner of the company. However, if you have started operating as a sole proprietorship, once you create an entity and then transfer assets to the corporation, IRS rules stipulate that you have to assign a fair market value to the assets for the purposes of taxation; in exchange for that transfer, you would receive an equal value of stock or equity in the company. This is definitely an area to consult both a lawyer and an accountant.

Separate Your Personal and Business Assets

In the case of titled property, transferring to your corporation requires retitling the vehicle or building or whatever it might be. For those assets with a loan, it can be more complicated, and some loans may have conditions that would trigger a default upon transfer. Before any such transfer, be sure to check the terms of any loans and seek professional advice.

If you’re operating as an LLC, the transfer of property can be a bit more complicated. The structure of an LLC means that the company isn’t paying taxes as instead, the owners (members) of that LLC are reporting and paying any tax. In the case of a property transfer, particularly of a high-value asset, that means that the partners could be on the hook for a higher tax bill. LLC members are also able to depreciate that property for lessened value over time to reduce those same taxes.

More complicated still is switching from an LLC or partnership to a corporation. Whereas going from a sole proprietorship to a corporation (or partnership or LLC) simply requires forming the new entity and transferring assets as needed, moving from an LLC or partnership to a corporation requires first dissolving the existing entity before forming the new one. This complex transaction would require help from a lawyer and an accountant.

Significant changes to your business are big decisions, and that’s why it’s important to get help from a lawyer in deciding upon the right entity in the first place, and why any changes and transfers are best done with assistance to make sure that you and any partners aren’t making critical and costly mistakes.

Launch Your Business Entity with LegalShield

With Launch by LegalShield, choosing the right entity and forming your LLC or Corporation is made easy by having a LegalShield lawyer on call. Get Started Today!

 

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