Understand your options
Before delving into the details, it's important to have a general understanding of the three basic forms a business can take. Here's the breakdown:
Corporation. The word "incorporate" has Latin roots, meaning "to create a separate body." That's basically what you do when you turn your business into a corporation. In the eyes of the state, a corporation is essentially a separate citizen with its own rights and responsibilities. A corporation can sue, borrow money, open bank accounts, and enter into contracts. It can also be sued and must pay taxes on its income. Because a corporation is a separate entity, it's responsible for its own debts and other liabilities. That means shareholders (people who own part of the business) can't lose more money than they've put in, even if the business owes much more, if certain requirements are met. Corporations can be privately held, with as few as one or two shareholders, or they can be publicly held, with open trading of shares and literally millions of shareholders.
S corporation and LLC. S corporations (a regular corporation with special tax status) and LLCs can be a profitable compromise for some businesses. They protect owners and investors from business debts and other liabilities, yet provide the tax breaks available to both corporations and sole proprietorships or partnerships. In many ways, these options provide the best of both worlds. However, not all businesses meet the strict rules these options impose and, like corporations, they must handle increased paperwork.
Sole proprietorship or partnership. Despite the benefits of incorporating, you may not want to do so. Instead, you can opt for sole proprietorship (if you're the only owner) or a partnership (if ownership is shared among two or more people). Such arrangements leave the sole proprietor or at least one partner personally liable for business debts and other liabilities. However, they also free you from paperwork and certain regulations. And since partnerships and sole proprietorships don't have to pay corporate income taxes, they may let you keep more of the money you earn.