When should you incorporate?

You and a friend have an idea that you both think can make money, and you start working on it together. You talk about how you’ll eventually split up your millions but you never formalize an agreement. You both start putting capital into this idea and also building up debt. Now what?

If the two of you are sharing profits and losses in this business venture, in the eyes of the law you are very likely running a partnership. A general partnership in most states will leave both of you with unlimited liability, which is absolutely no joke. Unlimited liability means that in the case that either of you get sued, both of you can be on the hook for any money damages, and if your bank account doesn’t cover the judgment, your house, your car, or other items of value you own can be taken to cover the cost. 

Let me put that into story terms - let's say, you create an incredible product, but your first iteration has a bug that costs one of your clients a bunch of money. They sue you. If your company is a partnership, regardless of the fact that you did nothing illegal, everything you own is up for grabs if you lose the law suit. If you have a corporation or an LLC, your personal assets are (in 99.9% of cases) shielded, and your liability in the law suit is limited to the amount of capital you have put into the company. 

While it is a common idea in the startup world to work on the idea and form a real company later, it is incredibly important to formalize your company at the start.