Whether using multiple business entities makes sense is a dilemma that commonly faces entrepreneurs. This is particularly true for online business owners who have multiple sites targeting different niches with products and/or services.
Does Using Multiple Business Entities Make Sense For A Startup?
Rarely. Although the equity owners may consist of a combination of individuals, corporations, limited liability companies, etc., the complexity of starting a venture from scratch as more than one type of entity typically can’t be justified from a time or cost standpoint.
A notable exception to this rule is where there is some extremely valuable intellectual property (e.g. a patent for cutting edge technology) that the entrepreneurs want to protect by placing ownership in one entity and licensing it to a second entity with the expectation the IP will also be licensed to third parties in the future.
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Another exception is where the business is already international in nature and it makes sense from a tax avoidance (not tax evasion) or import/export standpoint to place some business operations in a different country.
A third scenario where it might make sense for a startup to have multiple entities is where one entity owns commercial real estate and leases space to the second entity for the startup’s operations. This can be an advantage where the equity owners overlap but are not all the same. For example, there may be an investor willing to put money in the acquisition of commercial real estate while another may have a preference for investing only in tech startups but not realty.
When A Single Entity Makes The Most Sense
When your business is first starting out, the general rule is that a single entity (e.g. a Texas limited liability company or a Subchapter S corporation) is just fine because you get the liability shield of the entity plus your business venture isn’t overcomplicated with legal and tax compliance issues.
When To Set Up A Second Business Entity
When you have separate streams of income flowing into the business that each generates more than $100,000 annually in revenues, it’s time to talk with an experienced business lawyer about whether to separate your nest eggs into different protection baskets by using multiple business entities.
There are three common methods of expanding from one entity to multiple entities when your income and protection needs justify it.
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First, there’s the creation of a sibling entity. Each entity is separate from the other, neither a parent nor a subsidiary.
Second, one can create a subsidiary entity with the first entity serving as the parent.
The third option requires setting up multiple additional entities at once. Typically, it will mean the creation of
a parent entity for the existing business. The parent will form a second subsidiary in which to spin off some of the operations from the first (sibling) entity. As the business continues to grow, the parent can form new subsidiaries that are siblings to the existing ventures.
Where To Get Legal Help For Your Business Entities
You’ll want to retain an experienced business contracts lawyer who understands technology to help you set up the entities you’ll need and put the right legal documents in places to protect you.
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If you’re interested in setting up a Texas limited liability company or a Texas for-profit corporation, book a phone consultation with Dallas Business Lawyer Mike Young.