The law is confusing, but that doesn’t mean starting your subscription box business has to be. Setting up a legal structure is one of the first steps in achieving your business goals – and will affect your startup costs, the amount of legal maintenance required (aka paperwork), liability, and, of course, your taxes.
Here is a quick crash course to help you choose the best legal structure for your business.
Sole Proprietorship
This is the simplest and least expensive legal structure to start. A sole proprietorship is an unincorporated business owned and run by a single person.
Unlike corporations and LLC’s (don’t worry, we’ll get to these later), a sole proprietorship is not separated from the individual in the eyes of the law. In fact, this is what your business becomes by default. You might already have one without even knowing. For example: are you a freelancer? Congratulations! You are a proud owner of your very own sole proprietorship.
Upkeep:
There are not many upkeep duties involved in managing a sole proprietorship, but there will be necessary renewals for operational permits specific to your subscription box and “doing business as” (DBA) filings that specify the name your business operates under.
Taxation:
Personal and business income are one and the same for sole proprietorships. The business is NOT taxed separately. Instead, business income is filed under the owner’s personal tax return. Owners of a sole proprietorship are also subject to self-employment tax, which covers the Social Security and Medicare taxes for self-employment income. This is beneficial for small operations, as oftentimes business losses can offset personal tax burdens. See more about taxes for sole proprietorships here.
Liability:
Under a sole proprietorship, the owner is not given liability protection. In other words, if the business defaults and is unable to pay its debts, creditors can come after the owner’s personal assets.
How Do I Start One?
No formal action is required if you are the only owner! You’ll still need to obtain the necessary licenses and permits, however, depending on your industry/niche. If you plan to operate with a name other than your own you will have to file a fictitious or trade name.
Looking for more info on how to name your business? Check out our top 4 tips here.
Bottom line:
While a sole proprietorship is the easiest and cheapest legal structure to form and maintain, it puts your personal assets at risk. The tax burden is light and requires low upkeep, so it’s perfect for a small, one-person operation… but it’s not an ideal structure if you plan to grow your subscription business by hiring employees or raising capital. Sole proprietorships are the second most popular legal structure after LLC’s.
General Partnership
All right! So you found some friends that you want to start your subscription box business with! Nice. Rather than starting a sole proprietorship, you can file as a general partnership. This structure functions similarly to a sole proprietorship, except that profits, liability, and management responsibilities are shared among the partners.
Upkeep:
Other than specific elements made in the partnership agreement, the upkeep requirements for partnerships are nearly identical to sole proprietorships (which is basically nothing aside from permits and name filings).
Taxation:
Taxation for general partnerships is similar to sole proprietorships in that business income is reported on the personal tax returns of the partner. Each partner pays taxes on their share of the business’s profit and is subject to self-employment tax to cover Medicare and Social Security taxes. Unlike sole proprietorships, general partnerships are required to file an Annual Information Return Report.
Liability:
There is no liability protection for partners in a general partnership. Each partner is held accountable for the business’s debts AND the actions of fellow partners. If, for example, your trusted friend and business partner buys an airplane hanger to serve as an office for your two-man poetry writing company, you can be held accountable if your business can’t pay for it.
How Do I Start One?
First, you’ll need to register your business with your state. Establish a business name with the same process as a sole proprietorship. If you operate under something other than your business name, you will also have to file for a fictitious or trade name. Once your partnership is registered, file the necessary licenses and permits.
Bottom line:
A general partnership is nearly the same as a sole proprietorship except with partners. It is a good fit for small subscription businesses that will be owned and operated by multiple people. However, as with a sole proprietorship, this structure does not shield the owners from liability, so personal assets will be on the line if the business generates too much debt. It is not suited for businesses that hope to hire employees or raise capital.
Limited Partnership
A limited partnership structure is just an extension of a general partnership, but with some slight nuances. You and your friends run the business, but maybe your mom, friend, or coworker wants to invest in your company. Limited partners (e.g. your mom) are investors, but they don’t have any voice in how the business is managed or run. Like a general partnership, profits and liability are shared among all partners.
Upkeep:
Other than specific elements made in the partnership agreement, the upkeep requirements for partnerships are nearly identical to sole proprietorships.
Taxation:
Tax requirements for limited partnerships are almost the same as those for general partnerships, but limited partners don’t need to pay federal self-employment tax as they are not involved in running the business.
Liability:
In a limited partnership, the general partners do not have liability protection. However, the limited partners (aka your angel investor mother who now mysteriously lives in Silicon Valley and drives a Tesla) do. Limited partners are not liable for the actions of the general partners. This makes a limited partnership a more favorable platform for raising capital than the previous two structures.
How Do I Start One?
First, you’ll need to register your business with your state. Establish a business name with the same process as a sole proprietorship. If you operate under something other than your business name, you will also have to file for a fictitious or trade name. Once your partnership is registered, file the necessary licenses and permits.
Bottom line:
A limited partnership is ideal for businesses that will be run by multiple people who also hope to raise capital. General partners do not have liability protection, but limited partners do.
Corporation
Corporations are more complicated than the previous structures as they require more legal paperwork, a rigid organizational structure, and more money to start. Unlike sole proprietorships, corporations have “limited liability.” In other words, corporations are a separate entity from the owner, so the corporation’s income is entirely separated from the owners’.
Upkeep:
Corporations, as you might imagine, are not as easy to run. They are generally required to hold annual board and shareholder meetings and keep a record of minutes in which major decisions are decided by a vote. Almost every state requires an annual performance report.
Taxation:
Corporations are not as tax-friendly as the other structures. A corporation can be a “C corporation” by default or, if elected, an “S corporation.”
C Corporations are taxed “twice.” First, they are taxed at the current corporate tax rate. Then, the income that shareholders receive as salary is taxed again at the shareholder’s personal income tax rate.
On the other hand, in an S corporation, owners pay personal income tax on profits but the business does not have to pay a corporate income tax. (Of course, specific tax requirements vary by state.) However, there cannot be more than 100 shareholders in an S corporation. Learn more about S and C corporations here.
Liability:
Because a corporation is a completely different entity, the owners of the company are not liable for the business. However, in circumstances regarding misconduct, officers and directors can be held accountable.
How Do I Start One?
Just like a partnership, to start a corporation you must register the business with the state, establish a business name, choose an operating name (fictitious or trade name) if it is different than your business name, and obtain the necessary licenses and permits.
The key difference with corporations is that they require you to fill out “Articles of Incorporation” with the state.
Bottom line:
Starting a corporation is a strenuous process. Corporations are not as tax-friendly as partnerships or sole proprietorships, but they do offer a great amount of liability protection as personal assets of the owners are never at risk (except in cases of misconduct). A corporation is the best structure for large subscription box operations, hiring employees, and raising capital (think 800,000+ subscriber operations like Birchbox).
Limited Liability Company (LLC):
LLCs are a relatively new hybrid business structure. They combine the limited liability advantages of a corporation and the tax benefits of partnerships. They also have fewer restrictions on profit sharing. This structure, often seen as the best of both worlds, is the most common structure for subscription-based businesses.
Upkeep:
An LLC is less strenuous than a corporation to manage, as it does not require shareholder meetings or keeping minutes, but requires more paperwork than the other structures. Depending on your state, LLCs may be required to submit an LLC Annual Report.
Taxation:
In an LLC, all federal income taxes are passed on to the LLC’s owners and are paid through their personal federal income tax – much like a partnership structure. Unlike a corporation, an LLC is NOT seen as a separate tax entity.
Liability:
In terms of liability, an LLC is nearly the same as a corporation. The owners of the company are not liable for the business.
How Do I Start One?
Like any other structure, you must choose a business name and obtain the appropriate licenses and permits. Similar to an article of incorporation, an LLC must submit its “Articles of Organization” to the state. Depending on the state, however, an LLC may also be required to announce their business to the public and create an operating agreement.
Bottom line:
This is the most commonly used legal structure for subscription-based businesses. This structure combines the tax benefits of sole proprietorships and partnerships with the liability benefits of corporations.
All Things Considered…
In the end, it’s your business. Choosing the right legal structure is not just a decision for now, but for your future. Consider what you want your company to be, who you want to work with, how you want to raise money, and, ultimately, how you want to grow.
Now that you’re ready to pass the bar exam, choose a legal structure and get started on your subscription box business!
| Upkeep | Taxation | Liability Protection? | |
| Sole Proprietorship | Low | Not Separate – Through personal Statement of owner | No |
| General Partnership | Low | Not Separate – Through Personal Statements of Partners | No |
| Limited Partnership | Low | Not Separate
Through Personal Statements of Partners No self-employment tax for limited partners |
No (General Partners) Yes (Limited Partners) |
| C-Corporation | High | Completely Separate – Taxed “Twice” | Yes |
| S-Corporation | High | Completely Separate – Taxed Once | Yes |
| Limited Liability Company (LLC) | Medium | Not Separate – Through personal statement of partner | Yes |
Disclaimer: This is just an overview and is not designed to be totally comprehensive. Anyone starting their own business is advised to research the options they think may be best for them. This high-level information is an overview of common business structures. Specific regulations may vary based on your national, state, or local laws.
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