What Business Form Should You Select If You Start Your Own Law Firm
By: Ian E. ScottBio
More and more law students decide to open their own law firm after they complete law school. When faced with this challenge, the question often comes up of which business entity makes sense to select. In addition, as a Certified Public Accountant (C.P.A.) and Attorney, I have had my share of questions from clients regarding which type of entity a person should set up if they want to start a business. I too had to ask myself the same question when I started my own law firm Legal Services Incorporated. I was surprised at how much inaccurate and confusing information exists on the Internet. Moreover, as this is a complicated area, some advisors often give misleading and unclear advice on the topic.
When deciding which entity to select for your law firm, your decision will be based primarily on flexibility in the ownership structure, limited liability protection, and tax reasons. For a solo practitioner, your decision will be between a Sole Proprietorship (“SP”), Corporation (“C”) or Limited Liability Company (“LLC”) so those are the entities we will focus on. Let us look at the SP, C, and LLC in turn.
What are The Advantages & Disadvantages of a Sole Proprietorship?
When you were a child, you may have had a lemonade stand where you bought, peeled and juiced lemons, marketed your event, and took in revenue from your lemonade sales. If so, your business would have been a Sole Proprietorship. This type of business is easy to set up and in many places you are not required to do anything in terms of registration with the government. For legitimacy and because some of the entities you deal with (a bank for example) will insist that you register your business, it is always a good idea to register your small business with the Government. In terms of the process, you simply fill out some forms with your State or local Government office, pick a name, pay a fee, and start business. When you file your taxes, you will simply list the name of the business on your tax return and itemize all of your revenues and expenses on your personal return. All in all a very simple set up.
So if it is so simple, why doesn’t everybody pick this business form for their law firm? The key reason is that this business form does not protect the owner’s personal property if someone decides to sue the law firm. The legal terminology for this is that a Sole Proprietorship does not have “limited liability” protection. Instead, the law firm and the individual are considered the same person and if the business is sued or incurs debts, you, the business owner, will be personally liable. As you can imagine this can be a scary proposition as the end result of a bad business decision could be the loss of a home, car, or personal belongings. You should also note that even though you may face a low risk of being sued, this risk jumps significantly if you deal with vendors, hire employees or have clients visit your premises. Even a photo on your website can result in a law suit. As such, this entity is often not selected when people set up a law firm and instead a limited liability entity (a Corporation or LLC) is selected. Note though that there are special rules for setting up limited liability entities for lawyers and limited liability entitles do not protect you against malpractice.