Numerous myths about business structure are half-truths, but it’s the half that’s not true that needs to be discredited. Many rules cover sole proprietorships, partnerships and incorporation forms—but the basics are fairly straightforward.

Myth #1: Limited liability protection covers everything

There's a reason the word "limited" is part of the term "limited liability." In some circumstances, the limited liability advantages of an LLC or corporation will not protect an owner's personal assets. An owner of an LLC or corporation can be held personally liable if he or she:

• Personally and directly injures someone
• Personally guarantees a bank loan or a business debt on which the company defaults
• Fails to deposit taxes withheld from employee wages
• Does something intentionally fraudulent or illegal that causes harm to the company or to someone else
• Generally treats the corporation as an extension of his or her personal affairs, rather than as a separate legal entity (for example, by using company funds for personal bills or gambling activities)
  

These are exceptional circumstances, and if you're like most small business owners, these scenarios are improbable. But they do show that treating your business as an extension of your personal affairs is just asking for trouble. Still, no matter how ethical you are about running your new venture, a liability insurance policy is a great way to shield your personal assets from business problems.

Myth #2: There's nothing to stop an LLC partner from killing the business by leaving

It can happen, but it doesn't have to be this way. It's true that under the laws of many states—unless your operating agreement says otherwise—the company dissolves when one partner wants to leave an LLC. When this happens, LLC members are required by law to fulfill any remaining business obligations, pay off all debts, and divide assets and profits among themselves. The remaining partners can then decide whether they want to start a new LLC to continue the business.

Your LLC operating agreement can keep your business going without this kind of disruption by including buyout provisions. These terms specify what will happen when a member retires, dies, becomes disabled, or leaves the LLC for some other reason.

Myth #3: An LLC or corporation must have more than one owner

No state requires an LLC or corporation to have more than one owner. For single-owner LLCs and corporations, the sole owner simply does all the preparation, signing, and filing of the necessary forms, such as articles of incorporation.

Myth #4: Corporations get taxed twice

This is another half-truth that many people believe is completely true. Here's why: if a regular corporation (also called a C-corporation, where the corporation is legally a separate "person" from its owners) pays dividends to its shareholders, these payments are taxed, along with business profits. Most small corporations, however, do not pay dividends, which spares these companies from double taxation. In these situations, a C-corporation is only taxed once—for its profits. The same goes for most small S-corporation structures, where the owners pay company taxes on their personal returns.

Myth #5: Becoming a limited liability company (LLC) or corporation is expensive, complicated, and unnecessary

This is just plain untrue. There are a number of situations in which a small business should operate as an LLC or corporation. Liability is at the top of the list. While business insurance is something every venture should have, LLCs and corporations just offer more protection. Many small businesses—from roofing companies to bakeries—operate with some potential risk. LLCs and corporations reduce risk by insulating your personal assets (to some extent) from the risks of your business.

Myth #6: Once a corporation is set up, most of the paperwork is done

People who own and run corporations wish this was the case. Because corporations have a number of operating and tax advantages, they must comply with a number of rules that don't affect other kinds of companies, such as LLCs and proprietorships.

For example, both C-corporations and S-corporations have to observe corporate formalities such as holding and taking minutes of annual shareholder and director meetings, as well as documenting important decisions. Also, C-corporations need to file and pay taxes on a separate corporate tax return and must set up a double-entry bookkeeping system to record business transactions, complete with daily journals and a general ledger. It's all part of the responsibility of running your own corporation.