CBN Aug/Sep 2011
Pick the best business format for your gym?s future.
by JoAnna Haugen
When people establish small businesses, the company generally takes one of four basic business structures: a sole proprietorship, partnership, corporation or limited liability company (LLC). For all-star cheer gym owners, the company is almost always a corporation or an LLC. There are subclasses of these structures, depending on the specific needs of your program, and each type has an array of advantages and disadvantages, depending on how many people are invested in the company, what state the company is located in and other assorted factors.
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Sole Proprietorship:
If you sell a product or service?such as a tumbling lesson?without any official business formation, you?ve just become the head of a sole proprietorship. Though companies with only a single person remain sole proprietorships, these types of companies aren?t restricted by size, which means there can be several employees on the premises. In fact, most small businesses in the U.S. are sole proprietorships.
With a sole proprietorship, your business expenses are deductible and all income is taxable. However, if your all-star gym is maintained under this structure, then, as the gym owner, you assume all liabilities of the business, which includes all company profits and losses, as well as all legal obligations, and the self-employment tax (13.3 percent) must be paid. This can be particularly risky as there?s a possibility of injury on the gym floor, and lawsuits would be directed at you because you?re not separated from the business. If your gym is organized as a sole proprietorship and has any employees, which is most likely the case, you also become the target for any claims made against the business as a result of any of the employees? actions.
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Partnership:
This type of business structure is exactly what it sounds like: Two or more people go into business together. ?It?s the simplest and cheapest way to form a business between two or more people,? says Mark Scribner, CPA, CFP, director of Piemonte & Liebhauser, LLC, in Florham Park, NJ. It?s essentially the same as a sole proprietorship, only it involves more than one person. In a partnership, everything the business and partners own individually is at risk because all financial and legal liability is passed to the partners.
A special type of partnership, called a limited partnership, allows certain partners to invest in the company but not to handle the daily operation of the business. The person known as the general partner would be responsible for the day-to-day operations. If you?re interested in investing in a partnership at an all-star gym but don?t want anything more than financial responsibility, ensure that the laws that govern limited partnerships are followed precisely and specific paperwork required by the state is filled out to establish this type of business, otherwise courts might rule that the business is a general partnership, when you intended it to be a limited partnership.
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Corporation:
This is where things start to get a little more confusing. Creating a corporation means creating a separate and distinct business entity that?s responsible for itself. It?s more complicated and expensive to set up and manage, but the benefits can far outweigh the disadvantages. If your gym is sued, for example, you?re not personally responsible, as with a sole proprietorship or partnership.
A specific type of corporation, known as an S corporation, offers the legal protection offered through a corporation, but the income passes directly to the owners to be declared on a personal income tax statement, thus avoiding double taxation. This is a popular choice for closely held small business owners, including all-star cheer gym owners, because all liability rests with the company and not with the owner, but it?s a flow-through entity, which means that profits from the company flow directly through to the owners. Because of this, any losses from the gym can be deducted from other taxable income, such as from another job.
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Limited Liability Company (LLC):
For the purposes of all-star gyms, LLCs are relatively similar to S corporations. The major differences between the two have to do with how shareholders are treated, but most gyms are privately owned small businesses that do not deal in stock. If your all-star gym isn?t classified as an S corporation, it?s highly likely that it?s an LLC.
?For tax purposes, the LLC is treated as a partnership, but for liability purposes, there?s protection,? says Scribner. You?re only liable for what you?ve invested in the company. By default, the LLC is taxed as a partnership; however, you can choose to have it taxed as an S corporation. Partnerships and LLCs are subject to self-employment tax, but S corporations aren?t subject to this tax on top of the applicable federal income tax, so taking advantage of this loophole for partnerships and LLCs allows for flexibility (and liability coverage, in the case of an LLC) without the additional taxation.
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Other Business Considerations:
It?s worth noting that, should your company open new locations across several states, the state laws for where the gyms are physically located?versus where the headquarters are located?need to be followed in regard to business structure. Also, Twila Mynhier Brooks, an attorney in Lexington, KY, says that in Kentucky, the structure of a franchise depends on the agreement between the franchise holder and the franchise owner, which are generally based on one of the several business entity types noted above. If you?re in a franchise, she says, these rules may vary and each franchise contrast is different, so seek the advice of a local professional.
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Changing the Business Structure:
If you?ve already established your gym in a certain manner, it?s possible?though not always easy?to change the entity type, but first check to see if there are any state-level provisions that might affect this change. LLCs and S corporations have to be organized within the state, and costs and requirements for organizing a business or switching from one business type to another vary from state to state.
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How to Decide:
When you?re deciding which business entity is most appropriate for your gym, it?s important to consult an attorney and certified professional accountant in your state. Though there are federal standards regarding business structures, local experts can advise of any state-related issues you should be aware of. These experts can also help outline how specific business entities might work best for specific financial and structural considerations.
?We try to get as many facts as possible,? says Brooks. ?We try to determine what the business is, what it?s going to do, where it?s going to be located and where it?s primarily going to do business.? Knowing all those things, it?s then easier to determine what business structures makes the most sense to reach your goals. Scribner recommends seeking out the advice of a certified public accountant or another professional who specializes in the creation of business plans, as well. ?A business plan is important because it gives the potential business owner the opportunity to list all the potential expenses,? he says. ?A lot of times, when people open a business without sitting down and coming up with a formal written plan, there are expenses that get overlooked and you don?t realize these expenses until you?ve already opened the business.? Creating a business plan also helps to project what the gym?s finances will look like for the coming years, which allows for adequate allocation of funds in order to keep the business in the black.
In determining which business format is most appropriate for your gym, it?s important to realize that you may need to fork over some money at the beginning to establish the company. Sole proprietorships and partnerships don?t cost anything up front to create, but you?ll need to pay up front (generally about a few hundred dollars) to form a corporation or an LLC, and additional filing fees are required each year to maintain the business as is. Due to the inexpensive nature of sole proprietorships and partnerships, some would-be gym owners might turn to them to get started, but liability costs, especially as they may be associated with a potentially high-risk business such as a cheer gym or tumbling school, are often enough to deter many people. The S corporation and LLC are often the entities of choice for small business owners, but it?s important to note that the S corporation is not as flexible as the LLC, so if the owners or investment partners will be changing frequently, the LLC might be the better option.
For Tannaz Emamjomeh, co-owner of California All Stars (which encompasses several gyms in California and one in Las Vegas, NV), it took several meetings with accountants to determine that an S corporation was the best option for the short- and long-term growth of her company. ?Your business entity should reflect your company?s needs and goals, not necessarily what?s worked for bigger gyms,? says Emamjomeh. Scribner echoes that statement and says gym owners would be wise to consider their long-term goals so they can get the gym up and running correctly right from the beginning. ?It?s better to take care of everything up front,? he says. This means you should make sure you have the right licenses, permits and insurances in place before the gym?s doors even open. In addition, it?s probably a better business decision to establish an LLC or S corporation from the get-go. ?It will cost you a little more money up front to do it ?the right way,? but will save you money and headaches in the long run,? he says.
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**This piece is only a basic breakdown of the most common entity types for small business owners. Anyone planning on opening an all-star gym (or who would like to know whether to consider switching to another business type) should seek the advice of an accounting or law professional located in the state where the gym would be established.
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