When you’re starting a new business, it’s essential to choose the right business structure in order to meet your financial, operational, and aspirational goals. Let’s compare and contrast the different types of business entities and learn how they might work for you.
Sole Proprietorship
A sole proprietorship may be the simplest choice for a single business owner who wants to get started with a relatively easy process. With this structure, your business is not a separate legal entity. That means you are personally liable for the business’ debts and report profits and losses on your personal tax return.
Pros: With no state filing required, sole proprietorships are easy, fast, and inexpensive to form and operate with few ongoing formalities. It is the simplest form of operating a business.
Cons: You are personally responsible for the debts and losses of your business; and if the business is sued, you will be held liable. You also cannot sell an interest in the business to raise capital.
Partnership
Like a sole proprietorship but with multiple owners, partnerships are formed automatically when two or more people start a business enterprise for profit. While you can start a partnership with little more than a verbal agreement, we generally recommend that you create a partnership agreement to prepare for potential disputes between owners.
Limited partnerships can offer you some liability protection by designating separate rights and responsibilities to one or more general partners and limited partners.
Pros: Partnerships usually don’t require state filing to form. Smaller businesses are taxed more favorably compared to bigger entities and provides more flexibility.
Cons: You and your partners are personally liable for the debts, losses, and liabilities of your business (unless your limited partnership says otherwise). You share responsibility with other owners, and poor organization can lead to disputes.
LLC
Limited Liability Companies (LLCs) can be formed by one or multiple owners. Unlike the previous two entities, LLCs are independent legal structures that protect owners from personal liability in the event of lawsuits or debts against the business. The tax structure is similar to that of a sole proprietorship or partnership, depending on the number of owners. Additionally, you can elect to be taxed as an S-Corp. You also need a strong operating agreement to run one successfully.
Pros: LLCs are separate legal entities, allowing you to keep personal assets separate from business debts. You can have unlimited owners and you are not subject to the same formalities as a corporation.
Cons: As a relatively new business structure, there is less legal precedent governing LLCs. They are also more expensive to set up and require annual fees. LLCs may not work for companies seeking venture capital or a large number of shareholders.
Corporations
Corporations come with more fees, formalities, and complexities compared to the previous entities we’ve covered. That said, if you have big plans for your business, corporations give you the freedom to raise capital more easily by selling securities, to transfer ownership, and to eventually take your company public. There are two basic types of corporations.
S Corporations place limits on the number of shareholders and requires them to be U.S. citizens or residents. They are independent legal and tax structures, but owners report their share of profits and losses on their personal tax returns.
Pros: S-corps have plenty of legal precedent, have certain tax benefits, and can potentially continue to exist indefinitely even as owners leave or change.
Cons: S-corps place limitations on your shareholders, are more expensive to set up and operate, and require you to hold annual meetings and record meeting minutes.
C Corporations do not limit the number of shareholders, and they are taxed based on corporate profits and shareholder dividends. They also act as separate legal entities from their owners, helping you keep your personal assets separate from business debts.
Pros: With no limitations on shareholders, C-corps offer more room to grow. They also have strong legal precedent and can potentially outlive their creators.
Cons: C-corps may be subject to “double taxation” on their profits. Like S-corps, they require you to hold annual meetings, record minutes, and file with the state periodically.
Start Off on the Right Foot
Whether or not your business falls neatly into one of these categories, you should consult with an experienced attorney before you take the next step. The Petry Law Firm, PLLC will thoroughly assess your business needs, concerns, and objectives in order to help you make the best possible choice. Contact us today to schedule a consultation.
Petry Law Firm, PLLC
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