WT257 – Woodworking Business Models

I’m a CPA and wanted to make a couple points. First, we’re worth it. That said, I agree that the most important things getting started with a small business are risk management and planning for not making a profit right away.

As to risk, LLCs and corporations can provide protection from business risk, product liability for example. LLCs haven’t been around as a legal entity for anywhere near as long as have corporations. Consequently, an attorney may have some reservations about using an LLC instead of a corporation. I gather that’s because there hasn’t been enough litigation in which the courts have weighed in on LLCs to provide as much certainty as exists with legal issues arising with corporations. With neither entity is protection of personal assets from creditors absolute, as Marc correctly mentioned.

As to losses, a little history. New businesses probably won’t make a profit in the first year, maybe not by the second year. It used to be that a new business would be formed as an S Corporation. That’s because S Corporation losses would pass through to the shareholder, the business owner. Those losses would count as a deductible loss on the owner’s individual income tax return. (Those losses are limited basically by the amount money you put in the S Corp). C Corporation losses, should the business be shut down in the first few years for never having made a profit, would be lost, not deductible to anyone. So way back when, an S Corp would protect the deduction of those losses. On the other hand, if a new business went well instead of South, the S Corp would eventually convert to a C Corp because there was a tax advantage for a C Corp that doesn’t exist any longer. As far as I know there isn’t a good reason to ever have a C Corp for a small business any more.

So as I see it, if there is little or no business risk, be a sole proprietor. Once risk becomes a factor, be aware that a single member LLC doesn’t need its own tax return, but an S Corp does require a separate tax return. So an S Corp’s administrative cost would be slightly higher and that additional cost can be money well spent in the right circumstances.

Had enough? Well, me too but I should say that any business should have its own checking account and try to dedicate just one credit card for the business. It makes the accounting soooo much easier for you and for the accountant. LLCs and S Corps have to keep the business transactions separate from personal transactions. Doing so is part of your risk management. S Corps usually pay salary so taking money out of the S Corp becomes a more manageable way to deal with business income than with a sole proprietorship or single member LLC treated for tax purposes as a sole proprietorship. There’s withholding on salary, but with a sole proprietorship some spend there gross without realizing they didn’t reserve anything for income and self-employment tax. OOOPS! We don’t have the tax money. We spent it all. With an S Corp it isn’t as easy to just spend it all.

Remember, the above is general advice for generally new businesses and may not be applicable to exactly your situation. It’s written to be general because there are too many ifs ands or buts involved in the specifics.

I know all you big shot wood talk celebrities guys have a lot to lose if everything goes bad for you and I certainly understand the right thing to do is to protect yourselves legally. But for a feller like myself making built-in wall units and benches for sun rooms and mud rooms and the occasional entertainment center I don’t see where my risk and liability is.

If I make a nice mahogany bench for John Popper (have you seen John Popper lately) and the bench completely disintegrates under his girth and Mr.Popper takes me to court, I’m pretty sure the judge is going to side with the defendant. Especially after I tell him I’ve learned everything I know from the Wood Talk Guys.

Sole proprietorship is the way I go and am always cognoscente of the fact that in order to “lose everything” you first have to lose in court.