What Is the Best Process for Forming a Company?

Identify Your Product or Service

Every great company begins with an idea. It does not need to be complicated. Perhaps your new business will sell clothing or provide tax preparation services. A core idea is critical; your business cannot succeed if it lacks a purpose.

Before you proceed, identify the purpose that underlies your new business and how you will set yourself apart from the competition. To aid this process, develop both a vision (an expression of the end goal for your company) and a mission (which outlines the reason your company exists in the first place). Although related, your vision and mission should look different. Both will most likely mention your company's core product or service and, more importantly, how it will impact customers' or clients' lives.

Consider conducting market research into your proposed area of business to determine whether the product or service you intend to provide is actually of interest to prospective customers. Options for gathering information include online surveys or requests for feedback via social media.

Develop a Simple Business Plan

Brainstorming ideas is the easy part. Now you need to take action. At this early stage, many would-be entrepreneurs freeze up.

Instead of getting intimidated by the myriad of tasks that lie ahead, begin with a simple, one-page business plan. This document should outline your previously drafted vision and mission statements. Additionally, you should identify a few simple objectives (or goals) that will help you achieve your vision and mission.

If possible, develop a simple action plan with small steps you can take now to get on the path to business success. Remember, you can continue to develop your business plan as time goes on. For now, it is simply a blueprint to spur you into action.

Choose Your Business Entity

What is the scope of your new company? What role do you want investors to play in it? Do you need protection from personal liability? These and other factors will determine business entity classification. This is one of the most critical—and most complicated—decisions you will make early on. Options include the following entities:

• Sole proprietorship
• Partnership
• LLC
• S corp
• C corp

Each entity offers its own unique advantages and drawbacks. Do not take this decision lightly; it could impact everything from taxes to lawsuits. Factors to keep in mind as you determine which structure is right for your business are as follows:

• Do you want to keep matters simple? Are you determined to work alone? Is so, a sole proprietorship may be your best bet. If you intend to work with a spouse, sibling, or close friend, then a partnership or multi-member LLC may prove desirable.
• Do you require protection from liability? As a sole proprietor or partner you may enjoy minimal paperwork, but you could be uniquely vulnerable to liability. Other tax structures require extensive paperwork but could shield you and your partner from liability—a worthy tradeoff if you face considerable risk of legal action.
• Are you concerned about the potential for double taxation? Do you hope to become a pass-through entity for tax purposes?
• Do you hope to court investors? How many shareholders are you willing to take on?

Entity selection will determine if and how you proceed with legal documents such as articles of incorporation or articles of organization. Choose early on to minimize your paperwork burden.

Choose a State

Where do you want to do business? For many aspiring entrepreneurs this decision is easy, with most selecting their current home state. In some situations, however, it behooves business owners to launch operations elsewhere. Some states have especially favorable tax laws or minimal formation fees. Here are a few considerations to keep in mind:

• In most states, LLCs and corporations cannot be maintained without annual reports and filing fees. The two exceptions? Alabama and Ohio.
• Several states impose franchise taxes in addition to income taxes and filing fees. Depending on the state, franchise taxes may be calculated based on income or number of shares.
• Business litigation can be resolved more quickly in some states than others; hence the disproportionate number of Fortune 500 companies incorporated in Delaware, where cases tend to be determined by a judge and not a jury.

Remember: A particular state may seem affordable for incorporation purposes now, but it could prove far more expensive in the long run. When determining where to set up shop, look past formation fees and focus on long-term business concerns. In general, however, businesses with fewer than five shareholders are typically best off incorporating in the entrepreneur's home state.

Choose, and Search For, a Name

Otherwise magnificent business concepts have failed due to poor naming—and vice versa. A great name reflects your company's mission and whatever selling proposition sets you apart. Your name should also appeal to your target audience. Choosing a name can be difficult, however, as you may struggle to think of catchy ideas that accurately reflect your business.

Unfortunately, no matter how clever or relevant your desired name, you risk facing a common roadblock: another business already has your desired name. This could potentially lead to legal issues, so conduct a thorough search before you make anything official. Begin at the local level by checking with your County Clerk's Office to see if any nearby businesses have already snagged your desired name (or something similar). Next, check with the Secretary of State, particularly if you intend to launch an LLC or corporation.

Searches at the state level are most important, but it may prove necessary to expand your search if you eventually intend to expand your business. Otherwise, you risk running into issues as your company crosses state lines. Your best bet is conducting a quick search in the database of the U.S. Patent and Trademark Office. Begin by searching the Trademark Electronic Search System (TESS). Keep in mind, however, that while enlightening, results may not reflect the full extent to which your proposed name is already used. For example, trademark searches through TESS may not reveal names that look different in writing but sound similar.

Professional trademark search services may uncover similar names not revealed through standard TESS searches. The necessity for a more exhaustive search will depend on your business structure and mission; for example, sole proprietors may not face as many trademark issues as large corporations. Rethink name selection if you find any names similar to your desired moniker. Mere resemblance could lead to rejection as you seek name registration.

In addition to searching your desired business name, be sure to check the domain name if you intend to launch a website. Think twice if you are not quite sure about going online. In this internet age, customers are deeply suspicious of businesses that lack an internet presence.

Complete Articles of Incorporation or Articles of Organization

If you launch an LLC or corporation, you will need to work with an incorporator or organizer to draft articles of incorporation or articles of organization. Similar in many respects, these documents are registered with the Secretary of State to formalize the corporation's or LLC's existence. They typically include the following information:

• The organization's name
• The organization's primary place of business
• The purpose of the corporation or LLC
• The name and address of the company's registered agent (the person who receives official documents, including subpoenas or documents related to lawsuits)
• The names and addresses of organizers and incorporators (individuals or companies who review articles for compliance)
• Organizer and incorporator signatures

Articles of incorporation or organization must be submitted alongside a filing fee. The fee's exact amount varies from one state to the next. Many states assess filing fees of between $100 and $200.

Develop an Operating Agreement or Bylaws

Those new to entrepreneurism often confuse operating agreements and bylaws with articles of incorporation or organization. While charter documents such as articles of incorporation allow organizations to gain official recognition from the Secretary of State, operating agreements and bylaws are primarily created for internal purposes.

Similar in some respects to your previously drafted business plan, your operating agreement and bylaws serve as a valuable blueprint for your business. Typically, LLCs draft operating agreements and corporations draft bylaws.

LLC members appreciate the flexibility of operating agreements, which can be as simple or as complex as they desire. Key elements of operating agreements may include the following information:

• Membership interests (including classes of interest, such as profits interests, convertible interests, or non-voting interests)
• Capital contributions
• Allocations of profits and losses
• Voting procedures
• Accounting or recordkeeping procedures
• Managers' fiduciary duties
• Buyout provisions

Bylaws differ from operating agreements not only in that they serve corporations (and not LLCs), but also in their degree of flexibility. While LLC members enjoy the freedom to draft operating agreements almost entirely as they see fit, corporations must follow statutory requirements in their state of operation when drafting bylaws. However, bylaws can also include provisions above and beyond statutory requirements. The complexity of a particular organization's bylaws may be determined by the desired number of shareholders and the expected potential for growth. Initially executed by the company's original board of directors, bylaws can later be amended by director (or occasionally shareholder) vote.

Seek an Employer Identification Number (EIN)

Not all business owners require an Employer Identification Number (EIN). Assigned by the IRS, this nine-digit number is used for both identification and employment tax reporting. To apply, you must already have a valid Taxpayer Identification Number such as your Social Security Number. This step should not take place at least until after you have completed the articles of incorporation or articles of organization.

Obtain Necessary Licenses or Permits

Many businesses require licenses or permits on a state or federal level. Some states require corporations and LLCs to complete articles of incorporation or organization before they can be issued necessary permits.

Determining permit necessity can be complicated. Begin by searching the United States Small Business Administration website to determine whether your industry is federally regulated. A few examples of federally regulated industries include the following:

• Agriculture
• Aviation
• Mining and drilling
• Radio and television broadcasting
• Transportation and logistics

As the SBA points out, requirements vary significantly based on the agency and desired business activity. Check with the appropriate agency to determine fees and requirements.

At the state level, information on licensure can be found from the Secretary of State. Licensure may also be required at the local level. Keep in mind that names for licenses and permits can vary from one region to the next. For example, Philadelphia once required business owners to seek 'privilege licenses,' which are now referred to as 'commercial activity licenses.'

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