Point your ship in the right direction. When you think of your long-term opportunities, it is essential to know the path you want your business to go—understanding why your business exists. Pointing your business in a specific direction enables you to make right, quick decisions to keep you on track to your future state. Selecting the correct type of business entity formation fits you will make your endeavor a success.
In this section, describe how you plan to make money. Explain how the money flows into your business as revenues. Think of it this way. To make money, you send the invoice to get paid as your revenue. What does your invoice say, and how do you determine the amount on the invoice? Your scheme for profitably operating your business varies by the business type. A simple model is selling products or services to an end-user. Then, you send the invoice to that end-user, and the customer pays you. There are other models. For example, people use Google for its popular search engine, email service, web browser, and other free services. Google does not send an invoice to their public users. Instead, when a public use Google to search for anything, Google’s algorithm provides query results. And then, Google advises pages from a Google Ads advertiser to the public users. Most of Google's revenue comes from advertisers, not from public users.
A business model is how your business makes a profit. Explain the main product or service your business offers in a clear message for others outside your industry to understand what you do. And then add up all the cost takes to make, sell, and deliver your solution. Figure out how and what customer pays you to make a profit. A business model simply illustrates the source of revenue and show that it is more than your cost to deliver your product or service.
In this section, describe your long-term view of your business. A vision is an image of what your business becomes to achieve. A mission is daily activities, and your business roadmap focuses on what you do to make a vision happen. For micro business, do not get hang-up on "vision" and "mission." What is important is knowing where you are going with your business. Dream about what is your business is in a year or two from now. Focus on your passion that started your business idea. Always helps to have an image of where you headed, something to look forward to attaining. For example, have an image of opportunities ahead, such as new products, and expand service coverage. Think of what do you personally want to attain, like being financially independent and respect for your success. Describe where your passion lies and decide what you want your business to be.
In this section, describe your idea of the future desired result. The goals you set will help achieve results with focus effort, organized resources, and time. A good goal statement contains SMART components. SMART is an acronym for Specific, Measurable, Achievable, Relevant, and Time-bound. The goals you put down should be aligned with your overall business objective and are most effective when time-bound. If a goal you set is too ambitious, it is meaningless because it is unattainable. Goals set too low are also useless because they can be achieved by doing nothing or doing the same old thing instead of stretching and innovating.
Once your goals are described in a SMART statement, next is to set milestones. The milestones are essential events or points in progress toward your goals. Each milestone is a specific event such that you can checkoff when you achieve it. In Jack's Sandwich Shop example, developing a mobile app to accommodate customers who wish to order and pay with a smartphone was necessary before opening for business. One of the milestones was having a contract with a web developer to create a mobile app for Jack's Sandwich Shop.
After Jack opened the sandwich shop business, he needed metrics to monitor how his business is doing. Like what Jack did, choose the right parameters. Useful metrics are always trackable, relevant, and explainable. The metric examples are month-to-month revenue growth, customer acquisition, referrals, and total revenue. The critical point is to choose metrics that indicate where you are now with your goals and trackable. Useful metrics help you monitor that you are on track with the plan.
This section describes the type of business formation as a business entity. There are several types of business entity formations. Typical examples of entity formation are sole-proprietorship, LLC, corporation, and variation of these types. What you select determines how your business is structured and taxed.
If you launch a business and you are the only owner, your business is automatically sole-proprietorship. It is the basic form of a business entity. There are no forms to fill, no need to register with the state government. Many small businesses start with being a sole-proprietorship. Tax filing merely is attaching Form 1040 Schedule C on your personal income tax return, along with Schedule SE self-employment tax form. The business owner is personally responsible for all of the business's profit, debts, assets, and liabilities. You have no isolation between you and your business. If your business gets sued, they can take your assets, such as your home, cars, and bank accounts.
To protect your assets, you can buy enough general liability insurance, or some business owner form their business as LLC (limited liability company). The LLC is a structure allowed by state statute, and the owners are called members. To run your business entity as an LLC, all you need is to file an LLC Articles of Organization form at your state government. This process takes about a few days, and it typically costs much less than $100 to do so. As the name says, a limited liability company limits the degree you are liable for damages incurred by customers. Thus, a customer who sues you won't touch your personal belongings like your bank account. As a self-employed, you are a Single Member Limited Liability Company, typically treated as a "disregarded entity" for federal tax purposes. Meaning there is no separate tax form; income and expenses reported on Schedule C, just like a sole-proprietorship.
In the early startup phase, many businesses face the problem of not enough customers for income or struggling to manage their cash flow. As your business grows and starts to make lots of profits, you begin to feel the income tax burden. When that time came, run your business as S-corporation (some mentioned it is a corporation for a small business). A corporation is a business with shareholders, and the tax paid as a separate legal entity. But an S-corporation files a federal Form 1120-S. It passes most components of income or loss to shareholders (owners). Then you, as the shareholder, are responsible for reporting the information on your personal tax returns. Although a corporation consists of shareholders, a board of directors, and officers, you can act as all those roles at the same time.
Here are some of the benefits of being an S-corporation.
(a) You do not need to pay corporate income tax because you file business income on your personal tax return.
(b) You can deduct expenses, such as home office, meals and lodging for the employer's convenience, profit sharing, retirement pension, awards, employee benefits, director fees, health insurance premiums, and insurances. These write-offs will help offset your profits to minimize income tax. As an S-corporation, you do not have to claim these deductions on a Schedule A. Hence these deductions are not subject to the standard 2% of adjusted gross income threshold.
(c) Your S-corporation can use your home to conduct business meetings and pay you as rent. You don’t have to report that income on your personal tax return if the rental income is up to 14 days each year. Your S-corporation gets to deduct the meeting expense, and you have a tax-free income.
(d) Your S-corporation can directly pay your health insurance premium to the insurance company. Or, use a Medical Expense Reimbursement Plan to reimburse your employees' costs and those of their spouses and dependent family members. And at the year-end, add the premium to W-2 as income. This medical benefit is not subject to the 10% Medical Deduction on Schedule A.
(e) You pay Social Security and Medicare taxes on income as self-employment tax. As an S-corporation, you can put some of your income as salary and some as a distribution. Then, you are only liable for self-employment taxes on the salary portion of your income. Still, you pay ordinary income tax on the distribution portion at a lower rate.
An S-corporation has many ways to reduce your tax burden. Business owners can take these deductions through an S-corporation before the income ever hits your personal income tax return. However, becoming an S-corporation could cost you lots of money. To establish as an S-corporation, you will use a business attorney to help you optimize your documentation and filing to best suitable for your situation. So, forming a corporation could cost thousands of dollars. It is a tradeoff of the tax savings versus the cost to establish a corporation.
###