Choosing your legal structure is a pivotal decision. Sometimes the options can feel overwhelming, so the goal of this article is to help you understand the benefits and limitations of each structure so you can figure out what’s best for your startup.
Every situation is unique, so it’s essential to work with legal counsel to understand what’s best for you. If you’re looking for counsel, feel free to reach out to us here.
The Common Startup Legal Structures
Here are the top three legal structures for startups:
- Limited Liability Company (LLC). An LLC provides limited liability protection for its owners and allows them to maintain control over the company’s operations. This structure is often preferred by small businesses because it offers a flexible management structure and pass-through taxation.
- Corporation. A corporation is a more formal / structured legal entity that is managed by a board of directors on behalf of the owners or shareholders. This structure is often preferred by venture-backed tech startups.
- Public Benefit Corporation (PBC). The public benefit corporation is a new class of corporations for companies seeking to blend both profit and purpose. These companies believe that businesses can serve both shareholders and society. They balance the impact of their decisions on the environment, community, employees, customers, suppliers and investors (collectively known as stakeholders) rather than maintaining an exclusive focus on short-term maximization profits.
Each structure has its own advantages and disadvantages in terms of taxation, ownership structure and governance.
The legal structure you choose for your business depends on various factors, such as the nature of your business, the number of owners and your financial goals. Here are some advantages and disadvantages to consider when selecting a legal structure:
Limited Liability Company (LLC)
- Limited personal liability for owners.
- Offers a flexible management structure.
- Pass-through taxation.
- Challenging to manage a large number of owners.
- Potential difficulties when issuing employee equity.
- Venture capitalists do not typically fund LLCs.
Best for solopreneurs or small founding teams that are not seeking venture capital.
- Required for venture capital funding.
- Easy to create multiple classes of stock.
- Easy to issue employee equity.
- Requires more documentation and corporate formalities than an LLC.
- Results in double taxation (profits taxed at both the corporate and individual levels).
Best for startups seeking venture capital.
Public Benefit Corporation
- Empowers founders to pursue social and/or environmental impact.
- Has all of the advantages of a corporation.
- Increased governance and administrative burden to measure and report impact.
Best for founders seeking to blend profit and purpose.
While LLCs provide limited liability protection and a flexible management structure, corporations are often preferred by venture-backed tech startups due to the ease of creating multiple classes of stock and issuing employee equity. Public benefit corporations are a new class of corporations that allow companies to pursue social and environmental impact while still maintaining all of the advantages of a corporation. Ultimately, the legal structure you choose for your business depends on various factors, such as the nature of your business, the number of owners, and your financial goals. Consult with an attorney and an accountant to help you make the best decision for your startup.
Choosing the right legal structure for your startup can be a complex decision that requires careful consideration. It’s important to work with legal counsel to understand the benefits and limitations of each structure and to find what’s best for your unique situation. Since every situation is unique, it is best to consult with an attorney (and potentially an accountant) to help you understand what is best for you. If you are looking for legal counsel to help navigate this decision or others, feel free to reach out to us here.