How do I set up my startup as a "real" company?

I get this question a lot from friends who are thinking about starting up startups. Another one just asked so I figure I'd put up this entry about making your startup into an "official" company since I'm creating this blog in part to help other entrepreneurs with advice I wish I had when I started my first company...

First a disclaimer: I am not a lawyer and what I say should definitely not be taken as legal advice. It's just my experience from having done this a few times and, from what I've seen, a lot of folks get stuck on this point as if it's some mysterious peak to conquer when it's really just a tiny molehill to get past...at this point. I'll get you past the molehill part but do keep in mind that lawyers and accountants have their jobs for a reason: this stuff does get deep and, as you roll ahead, you'll want to dig deeper either through reading or by consulting professionals. I just want to help you focus on starting up your startup and not to get caught up on something that probably looks more intimidating than it really is at this stage. So, without further ado, here are my observations:

Do you need to incorporate? At some point, you'll probably want to and, if you plan to raise capital, you'll definitely need to but, as you start up, keep this in mind: the number one thing about incorporating is limiting liability. You don't want to lose everything you have because your company goes under. So, the question really is, at this point: are you already worried about your company going under before you've even gotten it off the ground? Hopefully not! So, really, you can wait a bit. In fact, you may even wait until your potential investors ask you to incorporate as a condition to investing and, if you've gotten that far, you're in a pretty good position. But you may want to do it somewhere between just implementing your ideas and securing funding. (When I say "implementing" I'm thinking technologies; I'm focusing more on technology companies because that's what I know, if you're more of a pure business play, then you may want to incorporate earlier - again, it's the liability thing so the time to look at this is when you're ready to go above the radar in whatever form.)

What sort of entity? This is where it can get confusing (there's a reason fat books are devoted to this) but if you're just starting up, you don't need to go deep enough to get confused. So here goes...There are all sorts of entities you can create but I'll just touch on the four really relevant ones: DBA, S-Corp, C-Corp, and LLC.

• Doing Business As (DBA) Actually, this is not a form of incorporation at all but I'm including it here because I think it is useful and relevant for entrepreneurs. My first company was a DBA. I created a piece of software, wrote some press releases and put it on download.com. I got some notice in the press, was written up on in a book and Microsoft even contacted me out of the blue. But I never needed it to be anything more than a DBA. I would've been liable if bad things happened but it was a relatively innocuous piece of software (although it did get a patent later :) and I was happy with it just being shareware put out by a company I made up. DBA basically just allows you to call yourself a company.
  
• C-Corporation My last company was a C-corporation and unlike a DBA, my liabilities are limited and protected by the corporation. That is, I won't lose everything I own if the company fails (well, it can get a bit more complicated than that for founders but you can worry about that later). C-corporations allow all sorts of investments to happen: you can have a zillion shareholders, each with a different "class" of stocks. I raised some capital for that company and, because they were in separate rounds we had different classes of stocks (put simply, each class offers stakeholders of that class particular nice things that other classes may not have). If you're hoping to raise a lot of capital in successive rounds, you're going to need to be a C-corporation at some point. But you don't need to from the get-go. Why not? One reason is "double taxation," (where you pay personal taxes and corporate taxes on the same money) which leads us to...
• S-Corporation My current company, Positive Motion, is an S-corporation. I'm limited to 75 shareholders and one class of stock. If I need to change that, I can always convert to a C-corporation. Caveat: Only U.S. citizens or resident alien can create an S-corporation (non-U.S. citizens can start a C-corporation). There's no double taxing on S-corporations and so it is a fairly popular way to start a company while getting liability protection.
• Limited Liability Company (LLC) This is a fairly new entity that affords liability protection but is much easier to set up than a corporation. Like an S-corporation, you are not double-taxed. But if you are looking to raise capital or attract employees with stock options, you'll want to convert it into a corporation since you are not allowed to issue stocks in an LLC.
  

Well, that's about it in a nutshell. Sure, there's a lot more stuff, like C-corporations allow you to deduct health insurance for your employees, blah blah blah...do you really need to know that at this point? You can cross that bridge when you get to it. Right now, focus on building your company.

Finally, incorporating is easy enough to do yourself but cheap enough to get a lawyer to do if time is as much a factor as money. And lawyers will probably not make mistakes when they do this stuff since this is what they do. On the other hand, if you've been pulling all-nighters and wearing too many hats, long forms make start looking a bit blurrier than they should if they're to be done properly...