How to Create a Company to Manage (and Protect) Your Side Projects
Don’t underestimate the potential of a side project (or “side hustle” as they’re commonly known): many multi-million dollar companies started as side projects. Twitter, Craigslist, Slack, Groupon all started as a side project.
Typical Side Company Setup
Most people simply work on their side project while they still have a job and then if it takes off or at least becomes “ramen profitable” (where you are able to at least feed yourself with your side hustle income) then they create a company (register an official business).
However, there are risks with doing it this way, especially if you have many business ideas. First, since your initial work isn’t within an official incorporated business (a Corporation or LLC, an entity that is separate from yourself) you might expose yourself to liability.
For example, you might have some beta users or first customers of your side business but since you aren’t an incorporated entity yet, you may be held personally liable for the business and these customers may be able to come after your personal assets in a lawsuit (home, cars, etc.). This is the infamous “customer slipped on your driveway then sued you” nightmare scenario (or if your technical product messed up their computer or network, for example).
Second, there are sometimes issues where you are currently employed and your side business may be related to your employer’s work. This is a pretty vague area of law but the rule of thumb is that if you are an employee of a company, any related work is owned by the company. It’s best to clarify these issues before you begin to work on any side projects (and definitely protect yourself with a clause clarifying this in any contractor work you do for a company or individual).
Ideally, you want to clarify exactly what is your employer’s intellectual property (either via written agreements or discussion with an attorney), then consider separating your personal intellectual property into an incorporated company to not only protect it, but to keep it for use on other side projects (which adds value to your side company itself).
The Ideal Side Company Setup
So, we want to avoid the issues mentioned above, but also we want our company that we create to be 1) inexpensive 2) easy to maintain 3) with the flexibility to add partners or to split off into their own companies (should they “hit it big”). Basically, we want a sort of Holding Company for our ideas and projects that’s easy to maintain yet protects our ideas and limits liability as well. Finally, if we maintain this company properly over the years, it will have its own value not only for it being more than just a newly formed company (creditors and others tend not to trust new companies) but this will build up the credit profile of the business, which may increase your ability to take loans and get credit in the company name.
The only real business entity that meets all these requirements is the Limited Liability Company or better-known as the “LLC”. It can be very inexpensive to form, taxes are dead simple (and low, in most cases, see below) and maintenance is typically easy plus it’s a very flexible entity: you can add/remove partners and those partners can be other companies, individuals (and even foreign individuals or companies).
How to Setup and Structure the Company
Choose a State
First, know that a US LLC (or Corporation for that matter) does not have to be formed in the state where you live. In fact there are the “business-friendly” states of Delaware, Nevada, New Mexico or Wyoming that provide either superior liability protection, superior privacy or both.
It’s important to note a few issues when choosing a state. First, if you form the company outside of the state where you live you may have a few more expenses and requirements. Mostly, you will need to maintain what’s known as a Registered Agent in the state where you form the company. This person or company is the state’s main contact point (and in many cases, provides an extra layer of privacy) and will forward official notices, service of process and other notifications to you either via mail or email. This typically costs anywhere from $99 to $299 per year. Note that we can provide this service in any state for $99/year.
Second, if you form the company outside of the state where you live (your “home state”) and they can demonstrate you were operating it in your “home state”, they will likely force you to “re-register” the company as what’s called a “foreign company” (not originally formed in that state). This process is called a foreign qualification (we can handle that as well) and will subject your company to all the same taxes and fees as if you formed the company in-state in the first place.
Of course, if your company is formed in say, Delaware, and you’re not really using it to perform any business in your home state (yet; you might just be developing a business idea or “keeping it on the shelf” until your business is ready) then the argument can be made that the foreign qualification is not necessary yet until you do things like get a local business license, hire employees or rent office space which are the typical “triggers” to require a foreign qualification. The question one might ask is “How would my home state know I was doing business in-state?”.
Third, consider how long you intend to stay in a state. If you never intend to leave Texas, then forming the company in Texas is a safe bet. However, if you find yourself moving around from state to state or have no idea what the future may hold, then consider one of the business-friendly states as your “company headquarters” which will prevent you from having to maintain, for example, a Texas company, if you no longer live in Texas.
Finally, if you’re going to go the route of choosing another state, note the expenses of forming and maintaining a company in a) your home state and b) the state where you will operate. For example (as of this writing), in California, registering an LLC is only a $75 state fee, but they also have an $800/year minimum Franchise Tax which is required (which is outrageously high, much higher than any state).
In Delaware, the state fee is only $90 but the annual fee is $300. In Wyoming, the formation fee is $100 but the annual fee is only $52.
So, use our online company formation order form to compare the prices for forming the company, then use our Annual Report order form to see what the recurring costs for the entity may be (in addition to any state taxes).
Choose Your LLC Company Name
Because you may ultimately not know the name of your product or service, or may use this entity for multiple product and service launches, keeping the name simple and somewhat vague would be ideal. For example, if you will be experimenting with many business ideas and projects, naming the LLC something like “Bold Enterprises, LLC” will allow you to keep using this LLC and apply it to many projects. Whereas naming it “Bold Software, LLC” sort of limits you to just software if you instead wanted to try, say, a t-shirt business at some point. Read more below about filing a DBA that gives you further flexibility in your business name.
File the Paperwork
The paperwork to form an LLC is usually pretty simple. It can be done online in some states or usually the forms are available via a government website. What is not so simple is figuring out the name rules, the bureaucratic quirks of the chosen state and especially arranging a Registered Agent and getting a proper Operating Agreement (that will protect you in many ways). Note that our business formation service can handle all of this for you if you want to spend about 10 minutes online filling out our order form instead of navigating the complexities of your chosen state.
Choose Your Taxation
The LLC is so simple that by default it’s taxed just like a sole-proprietorship (1 person LLC) or a partnership (2 or more person LLC). This means that taxation is dead simple: you simply add any money earned onto your personal tax return (1040). This can be done even with Turbotax. The LLC can choose to be taxed as an S-Corporation or Corporation (by filing a form with the IRS) but this would add an incredible level of complexity for a side business (including complicated taxation and possibly requiring you to run payroll).
Setup Your Accounts
Because you’ll be using one business entity for all your side projects, having one company with its own accounts is infinitely easier than constantly setting up bank accounts, merchant accounts and even email addresses and websites for each project or side hustle because the one entity holds everything for all your projects.
So you’ll want to setup your accounts under the LLC name for things like:
- Banking
- Merchant Accounts
- Credit Cards
- Bookkeeping software
- Web Hosting and Email
- Telephone and/or Cell Phone Accounts
- Mailbox Accounts (like UPS Store or something like our Virtual Office; important if you want a professional mailing address and to keep your home address off of websites, forms, etc.)
Consider a DBA if you Launch a Viable Product or Service
Say that you have your LLC created and your side project is actually ready for live testing, perhaps real customers, then you may consider filing a “Doing Business As” (DBA) also known as a “Fictitious Business Name” instead of spinning out the idea into a new company (see below). Using this method, you can still be “Bold Enterprises, LLC” but you can file a DBA (or many DBA’s) to be “doing business as” Simple Software or Mike’s T-Shirt Paradise or whatever name you’d like. This allows you to use a real business name but still keep all of your accounts and, more importantly, your accounting, in one simple business entity (rather than having to keep separate bookkeeping for each side project).
When Necessary, “Spin Out” the Project into its own Company
Hopefully, your side business will become successful and you might need to setup a new company for various reasons. For example, if you want to get investors or venture capital, they will almost certainly require that you have a Delaware C-Corporation (Facebook famously started out as a Florida LLC). Or perhaps you have other business ideas and projects but you want to separate out the liability from each, you can simply spin them out into other companies. So what you’ll do when you reach this point is create a new company and transfer the assets related to that project into the new company. Typically this is done by listing the assets that are being transferred (computer code, intellectual property, physical items, etc.), assigning value to those assets and making them part of the consideration when starting the new company (e.g. exchanging these assets for ownership or stock in a new company).
The Benefits of this Setup:
- You can centralize all of your ideas and projects under one simple business entity.
- You minimize your liability for these ideas and projects by keeping them in the LLC.
- The maintenance and taxation of this LLC are very simple.
- You don’t have to open business accounts over and over.
- You’ll be creating a business with real history and eventually a real business credit profile.
- When you’re ready, you can spin off an idea or project into its own company.
So, to summarize:
- Choose a State
- Choose Your LLC Name
- File the Paperwork
- Choose Your Taxation (the default is by far the simplest)
- Setup Your Accounts
- Consider a DBA
- When Necessary, “Spin Out” the Project into its own Company
So, that’s the basic process. Let us know any feedback or tips for a side business in the comments.