Business Entity Selection: Why You Want to Get It Right the First Time
By: Barry E. Haimo, Esq.
April 14, 2025
As you have seen, there are many options when it comes to entity selection. Each has its own advantages and disadvantages. There’s no one entity that has it all – though LLCs are close.
The most important thing to remember is that getting it right from the beginning is key. Having a mismatch in entity selection is painful and expensive to fix later. It’s also distracting to fix and that likely will inconveniently happen when your business is cruising along.
What do we mean by this?
Problems with Choosing the Wrong Type of Business Entity
Want to get a sense of how you can be negatively impacted by picking the wrong type of structure for your business? Watch the video below.
Read Transcript
Hi. This is Barry Haimo. Thanks for tuning in for another dose of Bite-sized Bits of Knowledge, where we give you meaningful information in a short amount of time.
Now, we’ve finished up formation. Entity selection. We talked about all the different kinds of entities. So I want to tie it all together today. I want to mention just a few points.
The first point is you want to get it right the first time. Formation is easy. Everybody can do it, and they do do it, but they don’t necessarily do it right. We clean up a lot of messes. It’s an art and a science and you want to make sure that your goals are aligned with the structure that you select because you’re planting roots and you’re going to build on those roots. And if you so desire to change it later, it could be a very expensive and time-consuming and disruptive proposition.
Second, I want to mention that if you don’t do a governing document like a partnership agreement for a partnership, an operating agreement for an LLC shareholders agreement, a bylaws for a corporation, or a limited partnership agreement for a limited partnership, then the default rules of your state statute will kick in.
And I guarantee you don’t know what those rules say. And they’re very different. And you have the legal right to change them and make them what you want them to be almost entirely. There’s only a few that you can’t change and I recommend you do that. I cannot stress it enough. I recommend you do that.
Now, to give it context, we’re dealing with a litigation matter where there was an operating agreement, but it was terrible. It was terribly prepared. It wasn’t prepared by a lawyer. It was people who found something online and they thought that they were going to be smart by saving on legal costs. They found one online, they prepared it, they signed it, and there’s holes. And one of those holes became an issue. The poor drafting of the document became an issue in a litigation matter.
Now it’s lasted over a year and it’s cost both parties probably– I could say easily over $200,000 in legal fees and a lot of emotional pain and suffering. Disruption. Believe it or not, when you get into business and you get into conflicts, your life is affected. It’s adversely affected, it’s impacted. So these types of things can be completely avoided. And it’s just sad. I’m really sad that this wasn’t done properly because it could have been avoided.
And when I say it could be expensive, I mean it. We’re going to have a whole video dedicated to litigation so you can understand the economic reality of litigation.
So when it comes to formation, it’s easy to do. It’s easy to do wrong. It’s an art and a science. Get it right the first time. Talk to your professionals. Get the holistic advice we’re recommending. Make sure it’s legal. It’s tax advice. And it’s also in harmony with your vision and your goals of what you want to achieve as a company.
Because it is hard to undo once you’re rooted, it’s hard to uproot and do it again. And it’s also expensive and disruptive.
So, hope you found this helpful. We’re on to the next subject. Please don’t forget to download the Entity Comparison Chart and our free Business Planning Stress Test. The links are in the description. Thank you for stopping by and stay tuned for more.
Obviously, that’s just touching on potential issues that going with the wrong business entity can cause you. Here are a few more:
Personal Liability Exposure
Problem: An entrepreneur forms a sole proprietorship instead of an LLC or corporation.
Result: Their personal assets (like their home or savings) are exposed if the business is sued or goes into debt.
Tax Inefficiencies
Problem: A high-earning freelancer forms a C Corporation instead of an S Corporation or LLC.
Result: They end up paying double taxation – a corporate tax on income, plus personal tax on dividends – when they could have avoided it with pass-through taxation.
Trouble Raising Capital
Problem: A tech startup forms an LLC but later seeks venture capital.
Result: Many investors prefer corporations (especially C corps), so they pass on the deal. As a result, the business must go through an expensive and complex conversion process to attract investors.
Ownership Restrictions
Problem: A small business elects S Corporation status without realizing non-resident aliens are among the owners.
Result: The business loses its S Corp status and faces unexpected tax liabilities.
Excessive Administrative Burden
Problem: A small one-person business chooses a C Corporation for the “prestige,” but doesn’t need the complexity.
Result: They deal with unnecessary paperwork, bylaws, board meetings, and separate tax filings that eat up time and money.
Issues Splitting Profits
Problem: Two partners start an LLC but don’t understand how to structure profit sharing.
Result: One partner does most of the work, but profits are split 50/50 by default, causing resentment and legal disputes.
Limited Credibility or Brand Protection
Problem: A business stays a sole proprietorship even as it grows.
Result: It appears less credible to banks, customers, and suppliers, and the owner’s name – not the business – is on everything. This makes it harder to sell or transfer later.
How Can You Get Entity Formation Right the First Time?
There are lots of things to think about:
- Your Goals
- Taxes
- Liability Protection
- Ownership & Equity
- Which State Makes the Most Sense
Again, there’s a lot. That’s why we highly recommend working with a pro – whether that means business attorneys like us or business advisors. They can help you choose the right entity, correctly draft governing documents, and explain any ongoing compliance requirements (like annual reports or meetings) associated with the various types of entities.
Ready for a more in-depth conversation? Set up a consultation today.
Download our FREE:
Business planning stress test
https://legacy.haimolaw.com/Business-Planning-Stress-Test
Florida business entity comparison chart
https://legacy.haimolaw.com/business-entity-comparison-chart
Additional Resources:
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Originally published 12/23/2021. Updated 04/14/2025.
Author:
Barry E. Haimo, Esq.
Haimo Law
Strategic Planning With Purpose®
Email: barry@haimolaw.com
YouTube: http://www.youtube.com/user/haimolawtv
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