Selecting an ideal legal structure when starting their own business is of crucial importance, affecting tax rates, management & paperwork requirements, fundraising capabilities & personal liability.
Common for-profit business structures include sole proprietorships, partnerships and LLCs. Corporations provide additional liability protection but are more complex and expensive to set up.
Sole proprietorships are an attractive choice for entrepreneurs. Their ease of setup and lack of federal registration make them ideal for small businesses and freelancers, though this simplicity also has drawbacks.
One major drawback to being a sole proprietor is being personally responsible for all debts and obligations of their business, so lenders could potentially make claims on your personal assets such as your house and savings account if things go bankrupt.
As for selling, the process can become even more cumbersome when selling is necessary. A buyer would need to register the business name as a “fictitious business name,” or DBA, which may reduce how much of an amount the company could be sold for and make lenders and investors less willing to work with it.
Partnership is a form of business organization in which multiple people share ownership, management, profits and losses equally. Each partner brings labor, capital and skills to the table for the operation. There are two primary forms of partnerships – general and limited. General partners assume full legal liability while limited partners invest money but do not oversee operations directly.
One major advantage of partnerships is their pass-through tax structure, enabling co-owners to report income and credits on their individual taxes while offering greater flexibility to combine financial resources. Unfortunately, one significant downside of partnerships is their unlimited liability clause – this means if one partner makes poor financial decisions they could be held liable and their personal assets could even be seized to cover business debts.
As soon as one partner decides to exit the business, there must be an established process in place that accurately values their contributions and returns it back to the remaining partners.
Limited Liability Company (LLC)
Selecting an effective business structure is crucial to the success of your new company, affecting how taxes are paid, the type of regulations that may arise and your personal liability.
LLCs provide one of the key advantages to business owners: protecting personal assets from the liabilities and debts incurred by their business. Creditors can only pursue assets belonging to the LLC – not yours personally unless there are illegal activities taking place at home.
LLCs offer flexibility when it comes to taxation. You have the choice between being treated like a flow-through entity such as sole proprietorship, partnership or S corporation and being taxed as a C corporation.
Profits, losses and tax items need not match up with ownership percentages for maximum flexibility when allocating profits and losses to tax items. This flexibility is invaluable in terms of maintaining control over your business structure.
Corporations offer business owners an effective legal structure that is recognized as its own separate entity by the state, protecting both personal liability and ownership transfers between shareholders/owners. Some courts recognize corporations as persons, giving them rights similar to individual citizens – so be sure to seek professional legal or tax advice when considering this option.
Corporations tend to be more costly to form and maintain than other structures, with taxes potentially being higher depending on their type. They must abide by stringent rules and regulations, with governmental agencies closely overseeing them. Corporations tend to work best for large businesses with significant revenue; over time however, changes to tax law have caused more income to flow to pass-through owners instead of C-corps, thus undermining payroll tax bases as well as decreasing social security and Medicare trust funds’ solvency.