You've gotten your doors open or your first few clients and you are in profit! You should already be thinking and planning for tax season (I know, hard to believe) and make sure that all your ducks are in a row for the structure of your business income, expenses and assets (even if you don't have any yet).
I strongly suggest setting up a corporation or LLC for personal liability and tax reasons. Both LLC's and Corporate entity's provide personal liability protection, but are a bit different in advantages depending on your operational needs and tax strategy. Generally a good idea for a "pass-through" tax entity is an LLC or S Corporation. C corporations pay taxes twice — first on their corporate income, and then again when shareholders pay taxes on their profits (dividends).
Although I have an S corporation myself, the smaller you are the more inclined I am to recommend a LLC for your inception. LLC's are not required to pay unemployment insurance taxes on salaries, and they often have fewer state-mandated formalities than corporations which are required to hold regular meetings of the board of directors and shareholders, keep written corporate minutes, and file annual reports with the state.
Finally, LLC's allow you to add as many members as you'd like and still deduct your operating expenses directly against your income. Both company profits and losses are passed straight to the members of an LLC.
Definitely do your own research, but don't allow this process to appear as scary as it may seem. There are many companies out there who specialize in setting up an entity for you without the expense of a lawyer. I recommend Legal Zoom for great information and inexpensive services. Click here for their Business Formation Services. They have even more extensive information on the benefits and disadvantages of available entities on their website.
Then, get it done! The sooner you get the appropriate entity set up, the easier your accounting for the year will be. Then you can work on developing your tax strategy for maximum deduction potential. But that's another post...
Plus, you'll feel even more legit as a corporate or LLC entity. You just wait.
