Because of the expense and formalities involved in setting up a corporation and issuing stock (shares in the corporation), you should form a corporation only if you have good reason to do so. If you merely want to limit your personal liability for business debts, forming a limited liability company (LLC) is probably smarter, because LLCs cost less to form and are easier to run. But here are some situations in which incorporating your business instead of forming an LLC might make sense:
- Your business needs the ability to issue stock or stock options to attract key employees or outside investment capital.
- Your business is so profitable that you can save significant income tax dollars by keeping some profits in the corporation each year. This strategy, called "income splitting," takes advantage of the lower tax rates on corporate income of up to $75,000. (For more information, see Nolo's article How Corporations Are Taxed.)
- You own a family business and you want to begin making gifts of ownership to your family as part of your financial or estate plan or to plan for the next generation of owners. You can easily make gifts of shares in your corporation without necessarily giving up management control and, if it's done correctly, without paying gift tax.
- Others insist that you incorporate your business. For example, if you are an independent contractor, companies you want to work for may ask you to incorporate before they will sign contracts for your services. These companies don't want the IRS or another government agency to reclassify you as an employee, which is very unlikely if you are incorporated.