Professional Corp/LLCs, Small Business

5 Things to Know before Forming your Professional Entity

January 14, 2020January 14, 2020
5 Things to Know before Forming your Professional Entity

Individuals interested in forming a new business have a number of business structures (also called business entities) to choose from.  The choice of entity can have far-reaching consequences in terms of business taxation, ownership structure, and—perhaps most importantly—liability protections.  

Briefly, incorporated entities, such as Limited Liability Companies (LLCs) and Corporations, offer owners a valuable layer of protection that unincorporated structures simply don’t provide.  Proper business incorporation effectively creates a legal distinction between the owner and their business.  This is an incredibly attractive facet of LLCs and corporations, as legal issues surrounding a business remain on the business itself and generally don’t threaten the personal assets of the owners.

Notably however, the rules of incorporation are slightly different for “professional” occupations.  What constitutes as a “professional” occupation depends on local state regulations, but commonly includes careers that require a license, such as doctors, lawyers, and engineers.  When these types of individuals want to start their own incorporated business (for example, a private practice), they may be prohibited from forming an LLC or corporation, and might instead be required to form a professional LLC (PLLC) or professional corporation.

These professional entities are largely analogous their non-professional counterparts—for example, PLLCs are subject to many of the same rules and requirements as LLCs.  However, there are important differences in terms of liability protections.

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Liability Protections for Professional Entities

Akin to the non-professional incorporated business structures, the main objective of PLLCs and professional corporations is to provide basic liability protections for owners.  Also like their non-professional counterparts, professional entities can be formed by either one sole owner or, alternatively, by multiple owners.  

All incorporated businesses—professional and otherwise—are considered their own legal entity, with obligations, assets, and debts separate from that of the owners.  The key difference with professional entities, however, is that an owner of a professional entity is not protected from their own malpractice.  

In other words, owners of professional entities remain liable for professional malpractice claims brought against themselves, despite the fact that their incorporated business is properly formed.  

What, then, is the point of professional incorporation?  Although owners aren’t shielded from claims brought against them, they are protected from the malpractice or negligence of their fellow associates or owners.  Said another way, a professional entity protects its owners from the malpractice claims of the other owners, but not their own malpractice or negligence.  

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Key Considerations before Forming a Professional Entity

Forming a professional entity is an incredibly important business decision that should be done with the guidance of an experienced professional.  The act of forming the entity (ie. filing the correct documentation) isn’t necessarily difficult.  Rather, the real challenge is determining the best entity for your particular operation.  Here are a few considerations every owner should think-over before making any drastic decisions regarding business incorporation:

1. Professional Incorporation is State-Specific

First and foremost, rules regarding professional incorporation are incredibly heterogenous, meaning that regulations vary dramatically state-by-state.  Thus, the first step towards professional incorporation is familiarizing yourself with the local laws.  All states—with the exception of West Virginia—allow professionals to create professional entities.  Most states permit professional corporations, while a fewer number allow PLLCs. Almost every state will define “professional” differently.  For example, an architect may be considered a professional occupation in some states, but not others.  Finally, states have different uses of the phrase “professional association”.  In many states, a professional association is the same thing as a professional corporation.  However, some state legislators use the professional association designation to define an entirely different concept.

2. Only Some Professions Will Form Professional Entities

Whether or not you’re required to form a professional entity will depend on your occupation and your state of operation.  Most state jurisdictions limit professional entities to certain types of licensed professionals (like doctors, lawyers, engineers, accountants, architects, and/or chiropractors).  Other states, however, more broadly define a professional as any occupation that requires a license.  

3. PLLCs, Professional Corporations, and Professional Associations are Different Types of Structures

Professional entities are largely analogous to their non-professional counterparts.  This means that PLLCs mostly have the same tax treatment, ownership structure, and regulations as LLCs.  The same can be said of the relationship between professional corporations and corporations.  Professional associations, however, are somewhat of an anomaly, as they’re not necessarily a business entity per se.  Some states use the words professional association and professional corporation interchangeably.  But in other states, a professional association is a separate concept, characterized by the formation of a group of individuals of the same profession that represent and maintain the standards of that occupation.

4. There may be Certain Naming Conventions for Professional Entities

Unlike non-professional entities, owners of PLLCs and professional corporations may be subject to special restrictions when trying to name their business.  Namely, professional entities are sometimes required to indicate their profession or occupation within the business name (ie. Crick and Johnson, Attorneys at Law, PC).  Again, these rules are state-specific. 

5. There may be other Special Requirements

The application process for professional entities are similar to non-professional incorporation, with the exception that most states first require approval by a state licensing body.  In some states, all of the owners must be licensed professionals, while in other states non-professionals are allowed to have part ownership in the business.  Some PLLCs or professional corporations may be required to carry insurance or have a surety bond.  Perhaps unsurprisingly, these rules are also state-specific.