Choosing a Restaurant Business Structure

Choosing the type of business entity your restaurant will be is an important early decision. It affects taxes regulations, legal obligations and your personal liability. It’s also a critical part of your restaurant business plan.

This guide will help you understand the differences between each type of business structure. So you can weigh the pros and cons before deciding which is right for your restaurant startup venture.

The following is a summary of the different business structure types to choose for your startup restaurant venture.

Sole Proprietorship
Partnership
C Corp
S Corp
LLC

Sole Proprietorship

A sole proprietorship is the simplest business structure you can form. If consists of one owner who is responsible for both the assets and the liabilities of the restaurant.

Profit generated by the restaurant is reported to the IRS as their personal income at tax time.

Liability — A sole proprietorship officially has no liability protection since the proprietor, (restaurant owner) and the business are considered the same legal entity.

However, you can take steps as a sole proprietor to mitigate your liabilities. It’s important to separate your true personal finances from those used in the restaurant’s operations. This will help simplify your bookkeeping if you’re audited.

Purchasing comprehensive business liability insurance and retaining an attorney will also help limit the impact of any claims made against you.

Taxes — Because you are self employed, and don’t have an employer taking tax payments out of your check every month, the IRS requires you to pay income taxes upfront every quarter. Your state may require the same.

Additionally, you’re responsible for what’s called the self-employment tax. Typically your employer will pay half of the employment taxes, which go to Medicare and Social Security and you pay the other half. As a self-employed person you’ll have to pay the whole amount, essentially doubling the tax.

Partnership

In a partnership, the partners split ownership of the assets and liabilities of the business. This arrangement mitigates personal financial risk by distributing the liability across multiple people.

Compared to a sole proprietorship, there are additional costs associated with paperwork and filing. And there are additional accounting requirements a partnership must follow.

Liability — Your liability depends on the kind of partner you are. There are two kinds of partners: general partners and limited partners.

General Partners assume responsibility for debt and other liabilities of the restaurant business and run the day to day operations.

Partners are similar to a sole proprietor, but they are working as a team. Partners are personally liable for the business. However, the splitting of liability between multiple partners mitigates the personal risk.

Limited Partners are investors only. They do not have control over business operations, but do get an ownership stake in the restaurant. Limited partners are not responsible for the debts and liabilities of the restaurant business.

Because they are considered investors, limited partners have restrictions on how much personal involvement they can have in the operations of the restaurant.

Taxes — A partnership does not pay taxes as an entity. Instead, each partner pays personal income taxes relative to their ownership stake in the restaurant.

Depending on the state you live in, and what your individual tax bracket is, you could end up paying more in taxes than if you choose a different business structure for your restaurant.

However, because a partnership has less accounting and compliance costs compared to a corporation, it may be a wash. A business accountant will be able to provide a customized answer.

Corporation (C Corp)

Compared to the other types of business legal entities on this list a C-Corp costs the most to set up. Running a C-Corp also means you have more rules and regulations to comply with.

If your plan is to incorporate your restaurant as a C-Corp, you should definitely hire an attorney and an accountant. The legal and financial reporting rules for a C-Corp can be tricky to navigate, especially for first-timers.

Liability — Corporations offer the greatest liability protections for individuals who own a business. Unlike most of the other business types, shareholders and the business are separate legal entities.

With a C-Corp you no longer own your restaurant. You own shares in the corporation. The corporation owns the restaurant. That’s how a corporation works as a shield against personal liability.

After incorporating, to maintain this liability protection you must comply with extensive corporate regulations.

Taxes — The price you pay for keeping your finances separate from the corporation is double taxation. The corporation is taxed on its profits. And then you are taxed for personal income.

Corporate tax law can be a bit of a maze to the uninitiated. Hiring a competent corporate tax accountant is really a requirement if you’re going to incorporate.

Corporation (S Corp)

Another type of corporation that’s practical for small businesses is an S-Corp. Like a C-Corp, an S-Corp issues stock. You don’t own the restaurant directly, as it’s considered a separate entity.

S-Corps also must follow corporate formalities and pay similar fees to incorporate. However, there are some differences which may benefit small businesses.

Liability — With an S-Corp you get the same shield from personal liability that is provided by a C-Corp. To remain in good standing the S-Corp must follow similar corporate procedures to a C-corp such as electing a board, holding meetings, etc.

Taxes — The primary difference between a C-Corp and an S-Corp comes from the tax code they fall under. Choosing an S-Corp gets around the double-taxation problem and makes it a pass-through entity.

This means the corporation’s profits are taxed on your personal income tax form when you file. Because it’s considered personal income, this can raise your tax bracket. The shareholders are responsible for paying taxes, though you may not have actually received any additional income at all.

Limited Liability Company (LLC)

LLCs are formed at the state level. Many small businesses like restaurants choose to form an LLC because it’s less expensive to file. An LLC is also subject to fewer regulations than a corporation, yet has personal liability protections similar to a corporation.

Liability — With an LLC, you and other members are personally protected from any liability beyond the resources you’ve put into the company. Since you only risk assets that are used in the business, this limits your personal liability greatly. The risk is also divided among the LLC’s membership.

Taxes — This is where it gets a little weird. LLCs are filed with the state like corporations are, yet for tax purposes, the LLC business structure is not recognized by the IRS.

As an LLC you have to choose to file your taxes either as you would for a partnership or a corporation. And you get to choose. You may want to consult with an accountant familiar with LLCs to help you decide.

You can read more about the IRS regarding LLCs here: https://www.irs.gov/businesses/small-businesses-self-employed/limited-liability-company-llc

Summary

In this guide to choosing a restaurant business structure we covered the 5 types of entities appropriate for small business. We discussed the cost, ease of compliance and tax implications of each to help you make the best decision.

A sole proprietorship is the easiest to establish but offers the least liability protection. A partnership is like a sole proprietorship but the liability is spread out over multiple partners.

Incorporating can provide you with a high level of protection from liability but has a higher startup cost and is subject to a lot more regulations.

An LLC is not recognized by the IRS but is recognized by the state it is formed in. An LLC provides some liability protection for the members but does not have the cost and compliance issues associated with incorporation.

This guide to choosing a restaurant business structure is part of a free series on how to start a restaurant, provided by Rezku. Rezku is a cutting edge restaurant management technology developer helping restaurant owners like you do more. Our systems include reservations, front of house management, point of sale, customer loyalty and more.

To learn more about how Rezku can help your foodservice business with our reliable and affordable systems, visit our homepage. For a free restaurant management technology consultation, contact us any time.