Therapy business entity
Therapy business entities and determining how to structure a business are among the most important decisions therapists make when establishing a practice. Learning more about the different options can help you to make the best decision for your situation.
What is a business entity?
Any organization formed to conduct business is considered a business entity, including a private counseling practice. The type of therapy business entity you select determines the legal standing of your practice with the IRS, your state, and other legal or government agencies. The business entity, or business structure, selected for your practice impacts many financial, legal, and liability aspects of the business and your personal life.
The selection affects:
- Taxes
- Who owns the therapy business
- Liability if sued
- Personal protection if sued
- Payroll for the business owner
- Asset protection
- Ability to have investors
- Selling the business
Types of business entities
Some states have different rules and guidelines for establishing a business entity. When deciding about which business structure to select for your practice, you should research and learn about the specific requirements in your state. It can also be helpful in your decision-making process to consult your tax advisor and an attorney for additional information about the benefits and limitations of each therapy business entity for your particular business and personal situation.
Sole proprietorship
A sole proprietorship is the most simple and basic type of business entity. As soon as you start conducting business, your practice is considered a sole proprietorship. With a sole proprietorship, your therapy business is not separated from your personal assets and liabilities. This structure does not create an official separate business entity.
How to form a sole proprietorship?
A sole proprietorship does not involve any extra work to create. As soon as you start doing business, you have formed your sole proprietorship. There are no legal formalities to form a sole proprietorship. Some people choose to apply for an employer identification number (EIN) through the IRS. When doing so, the practice would identify itself with the EIN for all tax-related matters rather than your social security number.
Some states may require you to register a fictitious name or “doing business as” (DBA). Most often a DBA is required by the state when you name your practice something other than your name. For example, a practice named Mary Smith might not need a DBA; however, a practice with the name Mary Smith, LCSW would likely need a DBA. Refer to your state business guidelines to determine the best practice.
Your local city or county government may require a therapy business license or permit. Check with your local government for this requirement.
Taxation with a sole proprietorship
With a sole proprietorship, you do not pay separate business taxes. It is considered a “pass-through” structure because the taxes pass through the business to the practice owner. As the owner, you pay personal taxes based on the income from your practice and any other income you may accrue on one personal income tax return. For example, if you work hours at another practice or agency, you would combine all the sources of income in one tax return.
How do you get paid in a sole proprietorship?
In a sole proprietorship, you earn any profits that your therapy business earns. You would want to set up a separate business bank account to keep your business earnings and debts separate and clear for your accounting and bookkeeping purposes.
Management and control with a sole proprietorship
As the practice owner, you maintain complete control over your therapy business and any business decisions. You cannot take on any business partners or investors. You can hire employees or add contractors to help run your therapy business. Remember, if you hire employees, you must file the appropriate paperwork with your state, file and pay necessary taxes, and carry necessary insurance. You can consult a business attorney and your tax advisor to learn more about these processes.
Personal liability with a sole proprietorship
With a sole proprietorship, you are personally liable for any business-related liabilities. You do not have the protection of a separation of your therapy business and your personal liability. If someone sues your practice, they also sue you personally. For example, if someone comes to your office and gets hurt, they can sue you personally. Additionally, if you have financial difficulties, a creditor can place a lien on your personal assets.
If you decide that you want to stop practicing, you would need to dissolve your therapy business with a sole proprietorship. You cannot transfer your practice to another professional, partner, or family member. However, if you decide to stop practicing, you must take all legal and ethical precautions related to the clients that you serve. Please consult an attorney, your professional association, and your state licensing board to learn more about how to address this issue in your state.
Partnership
A partnership structure is created when two or more individuals agree to operate the practice as co-owners. This structure allows the partners to share in financial contributions to the practice as well as profits earned. If a partnership is developed, it is very important to work with an attorney to create a partnership agreement. When therapists choose to create a partnership, most therapists choose to establish a general partnership.
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How to form a partnership?
A general partnership can be formed as easily as making a verbal agreement. It is similar to a sole proprietorship in that it does not require any specific legal arrangements; however, it is in the best interest of all parties to create a partnership agreement. The partnership agreement outlines the rules of the partnership for each partner.
You may also want to consider applying for an employer identification number (EIN) through the IRS. Some states may also require registering for a DBA. As a partnership is created, it is also important to check with your local city or county government regarding rules for a business license or permit.
Taxation with a partnership
In a general partnership, the tax liability passes through to the partners of the practice. The partners each report any income or losses from the practice on their personal income tax and pay taxes on any income from the practice.
How do you get paid in a partnership?
In a general partnership, the partners equally share the income and losses of the practice. The owners receive an “owners draw” based on their share of the income.
Management and control with a partnership
In a general partnership, the partners own and manage the practice together. Each partner contributes and has a right to make therapy business decisions.
Personal liability with a sole proprietorship
In a general partnership, each partner carries personal liability for the practice. This liability includes all debts, losses, and legal matters of the practice. The liability extends to include any issues related to the other partners, any employees, or accidents that may occur in the practice.
Limited Liability Corporation (LLC)
An LLC is a business entity that combines a corporation and a partnership. Depending on the state of the practice, an LLC can have one owner or act as a partnership with multiple owners. As a business entity, the LLC does create a separation of the practice from the owner(s).
How to form an LLC?
Forming an LLC requires some work to establish.
Some people obtain legal assistance to form an LLC. To form an LLC:
- Select and register the LLC name with your state (check on state-specific LLC naming requirements).
- Select a registered agent (responsible for receiving legal and government forms and notices).
- Complete and file Articles of Organization (consider utilizing legal assistance).
- Create an operating agreement when more than one person is involved with the LLC.
- You will also need to make sure you have completed other essential tasks related to opening your therapy business such as obtaining a business bank account, obtaining an EIN, filing for any DBA if necessary, and filing for any needed local business licenses or permits.
Taxation with an LLC
The federal government does not recognize an LLC for tax purposes. Consequently, taxation varies based on the specific LLC. A single-member LLC typically files taxes similar to that of a sole proprietorship. An LLC can also file as a partnership or a corporation. The members of the LLC report the income from the practice on their personal income tax.
How do you get paid in an LLC?
In an LLC, you can get paid through two options. With an owner’s draw, money is withdrawn from the practice. This format is common with LLCs that have only one member. You also have the option of receiving a salary.
Management and Control with an LLC
An LLC has options regarding management and decision-making control. The member(s) of the LLC can have roles related to operating and managing the practice; or, the practice can hire someone to fulfill these responsibilities. The articles of organization and operating agreement would outline the management and decision-making duties of the practice.
Personal liability with an LLC
An LLC separates your personal liability from the practice. If a creditor or person sues the LLC, they should only be able to access the LLC’s assets. The LLC does provide you with an extra layer of protection for your personal assets. It is important to remember; however, that if someone sues the LLC you are never completely free from claims of personal liability or liens. And of course, always make sure to carry appropriate insurance for your therapy business.
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Corporation
A corporation is a business entity owned by shareholders. The corporation can have one shareholder or many shareholders. It exists as a separate and legal entity from the owners and shareholders.
How to form a corporation?
Forming a corporation requires the most work and costs of the various therapy business entities discussed here. As with the other business structures, begin with selecting a name for the corporation while adhering to state-specific requirements regarding the name and registration of the name. There are two different types of corporations: C corporations and S Corporations.
Specific steps and processes are required to follow to incorporate the business. Many people chose to utilize the support of an attorney to assist with the process.
Consulting with an attorney can help to ensure that the correct processes are followed. Incorporation of the business involves:
- Filing articles of incorporation
- Authorizing and distributing shares to shareholders
- Electing a board of directors
- Establishing bylaws
- Assigning officers of the corporation
- Filing necessary forms and documents
- Maintaining appropriate records
With a corporation, you also need to address the other tasks such as obtaining a business bank account, obtaining an EIN, filing for any DBA if necessary, and filing for any needed local business licenses or permits.
Taxation with a corporation
A C-corporation and S-corporation vary regarding taxes. A C-corporation pays taxes as a completely separate entity. As a shareholder of the corporation, you will also need to pay personal taxes based on any earnings from the therapy business. With an S-corporation, the practice files a tax return but does not pay taxes on income or losses. The individual shareholders carry the tax liability and pay personal income taxes based on their earnings from the business.
How do you get paid in a corporation?
The corporation can pay the shareholders with either a salary or shareholder distribution. To earn a salary, the shareholder becomes an employee of the practice and earns a reasonable salary based on their position within the company. The shareholder can also earn a shareholder distribution based on the percentage of their shares.
Management and control with a corporation
In a corporation, the shareholders own the therapy business. Depending on the state, the corporation may have one shareholder or have more than one shareholder. The ultimate decision-making capacity of each shareholder depends on the percentage of their shares in the corporation. The management of the corporation is usually a board of directors or a slate of elected officers. The board of directors authorizes the elected officers to make decisions for the corporation regarding assets.
Personal liability with a corporation
Most of the time in a corporation, the practice carries the liability for debts and legal proceedings. The owners have very limited liability. With a corporation with more than one shareholder, if one shareholder decides to sell or transfer shares, the therapy business can continue. So, in a private practice that has more than one owner, if one owner decides to sell or transfer shares, the remaining owner(s) can easily continue to run and operate the business.
Which therapy business entity to choose?
With all this information, how do you select the best structure for your therapy business? This answer will differ depending on your personal situation and goals for your practice. As you work through the decision-making process, consider consulting your tax advisor, business planner, and attorney for guidance and the specifics related to your state.
In summary, you might consider the following information as you make your decision:
Sole proprietorship
- You are ready to begin opening the practice
- You are not interested in doing the extra work at this time to establish a different entity
- You are comfortable carrying the financial and legal liability
- You have thought about establishing another entity once you get the practice going
Partnership
- You want to work with another person to share the workload and ownership of your therapy business
- You are comfortable carrying the financial and legal liability
- You have thought about establishing another therapy business entity once you get the practice going
LLC
- You want more liability protection
- You are considering adding members
- You like the idea of a pass-through entity
Corporation
- You want the greatest liability protection
- You have thought about investors or selling your practice in the future
- You have the time and money to incorporate
Opening a private practice and establishing the structure and therapy business entity is a big decision. Take your time to research and consult with the appropriate professionals before committing to a decision.
Once your therapy business is up and running, practice management software, like TheraPlatform, can save you tons of time on administrative tasks like scheduling, billing, claims and documentation. TheraPlatform, an all-in-one EHR, practice management and teletherapy tool was built for therapists to help them save time on admin tasks. They offer a risk-free, 30-day trial with no credit card required.
Disclaimer: This information does not serve as legal or tax advice. It is only for informational purposes and should serve as a guide to assist you as you work through the decision-making process. You should consult with an attorney and tax advisor for legal and tax advice.
Sources
American Psychological Association. “Choosing the Best Legal Structure for Your Professional Practice.” 2014. Accessed October 4, 2022.
Benitez, B. ”Selecting and Forming the Right Private Practice Entity.” California Association of Marriage and Family Therapists, August 2, 2010. Accessed October 4, 2022.
Finet, J. “What Is a Business Entity?” FindLaw.com, July 22, 2022. Accessed October 4, 2022.
Internal Revenue Service. “Apply for an Employer Identification Number (EIN) Online.” September 22, 2022. Accessed October 4, 2022.
Sember, B. “Forming an LLC: The Basics.” LegalZoom, May 5, 2022. Accessed October 4, 2022.
U.S. Small Business Administration. “Choose A Business Structure.” Accessed October 4, 2022.
Warnes, B. “How To Choose a Business Entity for Your Practice.” Heard.com, May 25, 2022. Accessed October 4, 2022.
