Starting a Business

The IRS offers three ways to request your EIN – through the internet, by phone or fax:

• The internet address is: http://www.irs.gov/businesses
• The toll-free number to call is 1-800-829-4933 and is available Monday thru Friday from 7:00 a.m. to 10:00 p.m., local time.
• You can fax a completed form SS-4 anytime (day or night) to the IRS at (859) 669-5760 for Arizona.
  • NOTE: If you would like to receive your EIN back from the IRS via fax, you must indicate that on the cover page – otherwise they will just mail it to you.

Choosing what type of entity to use for your business is a complex decision. This is an area that needs to be discussed in detail in order to make the most appropriate choice. Further you should obtain legal assistance in order to make a well informed decision. That being said, here are some pros and cons to the various available entity types.

Generally the best entity type is a LLC (limited liability company) or an S-Corporation. Both of these entities are "pass-through", meaning that the business income flows through to the owner's individual tax returns. A C-Corporation is typically not favorable because corporate income is subject to "double taxation". That is because the business income is taxed once at the corporate level and then the corporate income remaining after the taxes have been paid is taxed again at the owner's individual level when distributions are made to the shareholders.

An LLC is a very flexible and informal business entity type and not very expensive to operate. However, all of the net income is subject to income tax and Medicare tax. Also the first $106,800 is subject to social security tax. All totaled the tax rate on this income (after all expenses) could be over 45%.

An S-Corporation is not as flexible and is very formal (requires more paperwork including filing with the state annually, keeping shareholder meeting minutes, and quarterly and annual payroll reports). However, an S-Corporation can allow you to save a significant amount of taxes. This option is not available with an LLC. In an S-Corporation, only wages that you pay yourself are subject to Social Security and Medicare tax. The remaining business income beyond the amount of your wages can be paid out to you, the owner, as a draw. The draw portion is subject to income tax only. There is a potential 15.3% tax savings on the business income that is not classified as wages. It is important to pay yourself a reasonable wage when using this entity type.

Another alternative available is to establish an LLC and then later elect to be taxed as an S-Corporation. This election is for tax purposes only and does not change the nature of your entity. You will remain an LLC with the state. However, with the IRS you would report you business activity under S-Corporation rules. The benefit of this strategy is it provides flexibility and can save some administrative fees. In certain situations business losses may be immediately deducted as an LLC whereas under an S-Corporation those loses may carry over into the following year. Also, an LLC is not required to document annual meeting minutes or report payroll which can save you time and the costs of hiring a professional to prepare those documents. Further, if the business income is low (typical during start up years) you may not be able to report a salary under the S-Corporation that is less than the total business income and still have that salary be considered reasonable. If the reasonable salary equals the total income from the business then there is no tax savings by being an S-Corporation compared to being an LLC. However, once the business income increases you can later elect to be taxed as an S-Corporation. Once this election is made it remains in effect for 5 years and can only be rescinded with IRS approval.

The Arizona Corporation Commission regulates corporations and processes new business incorporations.  Most of the forms and instructions are available on the Corporation Commission web page located at www.azcc.gov/divisions/corporations. In addition to simply preparing the forms, it is highly recommend that a LLC have an operating agreement and an S-Corporation have corporate bylaws. These are formal documents that establish the rules and procedures that will govern the business.

Simply incorporating with the State of Arizona does not create an S-Corporation. S-Corporations exist solely for Federal income tax purposes. Accordingly, a formal election needs to be made with the Internal Revenue Service by preparing form 2553. This form is generally required to be filed by the 15th day of the third month of the year the corporation wishes to be classified as an S-Corporation. Late filing relief may be available if form 2553 is submitted before the first business tax return is due.

General License - Depending on your profession, certain licensing requirements exist. For example, doctors, lawyers, child care providers, accountants and contractors are monitored by various state agencies. Check with the appropriate state oversight agency to determine their licensing requirements.

Sales Tax License - Certain business classifications such as retail sales, general contracting, painting, job printing, and restaurants, just to name a few, are required to collect sales tax. Before commencing operations you will need to obtain a sales tax license from the State of Arizona and the city in which the business is located or the sale occurs. Contact the state and the city and request a sales tax application.