8 Legal Requirements to Start a Small Business: Basic Start Up Requirements

By MBO Partners | May 9, 2022

Share
consultants working on laptop

Key Points

There are eight basic legal requirements for starting a small business. Following these requirements is important so that your business is both profitable and compliant.

Deciding which business structure to create-Sole Proprietor, LLC, C-Corporation, S Corporation-depends largely on your overall goals and your financial resources.

Make sure you have all of the required permits and insurance clients often require to do business with a compliant company.

Create a plan to pay required state and federal taxes. Knowing IRS requirements is very important to reduce the risk of an audit.

There are eight basic legal requirements for starting a small business. Following these requirements is important so that your business is both profitable and compliant.

Before taking the legal steps to setup and start your business, it’s a good idea to determine your services and target market and write a business plan or roadmap. Once you have completed this task, you will have a better understanding of the type of business you want to set up, what your goals are, and you will be ready to complete these eight legal requirements. There may be other legal requirements you must adhere to along the way, but these are the basic requirements for starting a small business.

1. Create a Business Structure

The first step to starting your business is to research the process and ask yourself several reflective questions.

  • What are my goals?
  • Am I providing goods or services?
  • Do I want to hire employees, or do I want to be a solopreneur?
  • What financial requirements are present, and what capital do I have available?

Gathering this information will inform your process. Every individual has different needs for their business, and legal entities are not a one-size-fits-all solution. While some individuals may feel their work carries little risk of legal action and opt for a simple sole proprietorship, others may wish to file for a corporation so they are positioned for growth.

Small business owners also need to be aware of federal tax obligations—income, self-employment, estimated, employer, and excise taxes. Your specific business structure will determine your federal tax obligations as well as the forms you use to report these taxes. The U.S. Small Business Administration (SBA) provides information about these taxes and forms.

Business structure options:

Business Structure Options for Small Business

Sole Proprietor

Many independents begin their journey as sole proprietors. For tax purposes, you generally operate under your personal Social Security number, but you can apply for a Taxpayer Identification Number (TIN) for your business by filing an IRS SS-4 asking for an Employer Identification Number (EIN) as your TIN instead of using your personal Social Security number. The business is generally run under your legal name. If you want to give the business an alternate name, you’ll register a Doing Business As (DBA) to state the name you intend to give your business. This process lets your state or local government know the name you are operating your business under. Specific DBA registration rules vary from state to state. You may also apply for a Federally registered business trademark or trade name.

 Limited Liability Company (LLC)

Originally designed to protect owners of a business from certain business-related liabilities, the LLC structure has since become popular for independents due to its simplicity, yet strong legal protections of a corporation shielding your personal assets. Think of it as the next step above a sole proprietorship.

S Corporation

Also referred to as an S-Corp, this is a business structure that has received the Subchapter S designation from the IRS. According to the IRS, S-Corps are considered by law to be a unique entity, separate and apart from those who own it. With this structure, subject to similar exceptions as described above for LLCs, you have the limited legal liability (separation of personal assets from your business) of a separate legal corporate entity as well as the separate tax entity. Provided the owners are eligible to make and make a timely election with the IRS, the profit from your business is reported under a separate tax return filing form 1120S, but the taxable profit passes through to your personal tax return on form 1120 K-1. Thus, there is generally just a single level of tax.

C Corporation

An attractive option for the savvy independent professional, C-Corps make owners shareholders. A C-Corp has the same status that Fortune 500 businesses hold—they are corporate entities separate from their owners. In the case of an individually owned C-Corp, you are not just the owner of your company, but the majority shareholder. Because the corporation is a separate legal entity, it is an individual taxpayer in the eyes of the IRS. While this structure is one of the most complex business arrangements available, it is also the most sophisticated, making it an attractive option for independents.

2. Register Your Business Name

For those who choose to file as a Sole Proprietor, to register your business name you’ll register a “Doing Business As” (DBA) or “Fictitious Business Name” (FBN). This process lets your state or local government know the name you are operating your business under. This registration doesn’t provide trademark protection, but it does allow you to create and use the name you want for branding purposes without having to incorporate. It also does not constitute a legal entity or provide any legal protection to the Sole Proprietor.

If you don’t register a DBA as a Sole Proprietor, the name of the business will default to the name of the owner’s legal name. For example, if your name is Rachel Smith and you form a consulting company, the legal name of the business will be “Rachel Smith.” However, if you decide to name your company “Rachel Smith Consulting,” you’ll need to register this as a DBA name. Specific DBA registration rules vary from state to state.

For those who are filing a legal entity, an application must be filed with your state for either Articles of Incorporation of Articles of Organization. Whether you choose an LLC, S Corp, or C-corp in step one above, you will need to file a name for the company with your state.

If you are planning on operating nationally or providing online services, you may want to consider getting your business name trademarked. A DBA name or incorporated business name will not offer brand protection in the 49 states where your business is not registered. While trademarking is not a requirement, it will provide stronger protection for your brand. This process involves applying for a trademark with the U.S. Patent and Trademark Office. If you do want to pursue a trademark, start by conducting a comprehensive search to make sure the name you want to use is available.

3. Get an EIN from the IRS

Any business that operates as a corporation or partnership or has employees will be required to have an Employer Identification Number (EIN) from the IRS. An EIN identifies your business for tax purposes—think of it as a Social Security number for your business—and you can use to open a business bank account, file tax returns, and apply for business licenses. The easiest way to apply for an EIN is online via the IRS EIN Assistant. If you operate as a sole proprietorship or single member LLC, you are not required to obtain an EIN, although obtaining one is a way to create additional separation between business and personal liability and it will shield your social security number on business documents and help protest against identity theft.

4. Obtain Required Business Permits and Licenses

Just like any other business, independent contractors must obtain proper permits and licenses. Depending on your industry and where your business is located, you may need to be licensed on the federal level as well as on the state or local level. Federal licenses are required for businesses involved in any sort of activity that is supervised and regulated by a federal agency. State licensing and permits will vary depending on location.

5. Prepare to Pay State and Local Taxes

Income tax is likely not the only tax you are responsible for paying into, so it’s important to understand other possible tax requirements you may face. The majority of independent contractors are considered to be self-employed and are therefore subject to paying self-employment tax in addition to income tax.

However, there are circumstances in which your tax situation may differ. For instance, how your business is structured from a tax perspective may affect which taxes you are required to pay into. Some businesses with employees are responsible for paying into unemployment which will require the owner to obtain additional tax identification numbers. In addition, whether or not your business made a significant profit during the past year could also be a factor. More information about  tax requirements can be found on the IRS website.

6. Create a Compliance Plan

contractor checklistEven as a small business owner, you’re subject to some of the laws and regulations that apply to large corporations. These include advertising, marketing, finance, intellectual property, and privacy laws. For companies that have employees, there are additional state and federal regulations that may need to be followed situationally. Review and understand which of these laws may apply to your business.

Additionally, small businesses must ensure that they are free and clear of contractor misclassification concerns. Not only is this a threat to the small business itself, but also to it’s clients. Are you taking the right steps to mitigate your risk? Use our checklist to get started.

7. Get Business Insurance

The decision to start your own business as an independent professional means that you are responsible for ensuring the legal and financial wellbeing of your consultancy. Remember that you are your business—if any legal or financial problems arise that affect your company, they will also affect you directly. It’s important to protect your business against the risk of liability losses not just because many clients will require you to have these insurances, but it also to protect yourself and your future security.

Of course, the types of insurance that are right for your business will vary greatly and depend on your industry, the size of your business, and the type of clients you work with, among other factors. Here are a few common types of business insurance that many independent contractors carry:

General Liability Insurance:

General liability insurance is often necessary for independents. This insurance covers a wide range of incidents, including accidental damage to a client’s property, claims of libel or slander, and the cost of defending lawsuits.

Errors and Omissions Insurance:

Errors and omissions insurance, also known as professional liability insurance, provides protection in the instance that a client incurs financial harm due to an error or omission—that is, a failure on your behalf to perform an integral part of your responsibility on a project.

Home-based Business Insurance:

While an insurance policy for a home-based business doesn’t apply to everyone, it’s relevant for independents who choose to work out of a home office. Most homeowners’ insurance policies do not cover losses sustained out of a home office, but an insurance policy for a home-based business can provide the protection you and your clients need.

8. Open a Business Bank Account

Legally, having a separate bank account for business transactions will enable you to better track and report on your income and expenses. It is advisable to set up a business bank account before you start receiving payments from clients but it’s even better if you do so once you start setting up your business. Do your research and find a bank that best fits your needs. You will often need several pieces of information when opening a business bank account, such as:

  • Your EIN (Employer Identification Number) or your social security number if your business is a sole proprietorship
  • Formation documents for your business
  • Your ownership agreement documents
  • Your Business License

Having all of these documents ahead of time will make the process of setting up an account easier.

Next steps

Now that you’ve worked through the legalities of starting your business, it’s time to spread the word. Many small business and independent contractors choose to market themselves by creating a website or by bolstering their presence on social media. First, start by identifying who your target market is and how you might be able to reach them. Then, consider your budget – can you afford to attend conferences to network with peers, or do you need more cost-effective options? For many independent contractors, a website is the gold-standard, and will allow the company or independent contractor to feature their biography, core competencies, and thought leadership. LinkedIn, Instagram, and Facebook can also be excellent vehicles for building your personal brand. These are all cost-effective options with great reach but be sure they align with the marketing budget you have identified for your business.

When starting a small business, there are many details, reports, legalities, and forms to work through to remain compliant and become profitable. MBO Partners has extensive experience assisting independent contractors in starting their businesses and can provide support and guidance to ensure your business is set up correctly.

The information provided in the MBO Blog does not constitute legal, tax or financial advice. It does not take into account your particular circumstances, objectives, legal and financial situation or needs.  Before acting on any information in the MBO Blog you should consider the appropriateness of the information for your situation in consultation with a professional advisor of your choosing.  

Related Posts

consultant working with others

4 Ways to Find Independent Consulting Jobs

There are many ways to find consulting jobs, and the secret is just knowing where and how to look for them. When you work as an independent professional, one of the biggest benefits is having the flexibility to follow your passion and choose the type of work you do. However, being smart and efficient in…

Read More...
consultant group

10 Independent Consulting Myths

The ability to work when and where you like, be your own boss, and turn your passion into a career make independent work broadly appealing, but that doesn’t mean it is for everyone. Running your own business can be stressful and it will require more than a few long hours. Nevertheless, people are often hesitant…

Read More...
navingating first client

GUIDE | 15 MIN READ

10 Steps to Succeed at Your First Consulting Project (Guide)

After landing your first consulting project, take these 10 steps to set yourself up for success.

Read More...

Trending

Tags

Learn more about the MBO Platform

FOR INDEPENDENT
PROFESSIONALS

Start, run, and grow

your independent business with MBO

FOR
ENTERPRISES

Engage, scale, and optimize

your independent workforce