Starting A Business? Find Out Which Entity Type Is Best For You
Each type might be better for a specific purpose or situation, relating to taxes, liability, and your ability to control the profits and losses of the business. Sorting out the terminology can be tricky. This run-down will help navigate the choices you have.
A sole proprietorship is a business operated by one individual (or a couple). The business legally is treated as an extension of the individual (or couple), not a separate entity. That means that the business profits and losses are included on the individual's personal tax return, and the individual retains personal liability for the business debts and lawsuits. A sole proprietorship generally is best for smaller businesses that do not need a lot of capital or complicated management structure.
A corporation is a separate legal entity from its owners. Ownership of a corporation is reflected through stock or membership certificates, which can be owned by one person or many people.
The corporation is formed under the laws of the state in which it is operating, with Articles of Incorporation or Certificate of Formation. A corporation provides legal protections from liability in some instances which a sole proprietorship does not. If corporate formalities are properly observed, all that is at risk to the owner of the stock is loss of their stock in the corporation, not all of their personal assets.
Wondering what the benefits of a corporation are? Check out this blog.
3. Subchapter-S Corporations (S-Corporations)
4. Limited Liability Companies
A limited liability company (LLC) is a form of a corporation, and has the liability protection of a corporation plus other benefits, like ease of formation and governance. You can have a single-member LLC which pays taxes like a sole proprietorship, or a multiple-member LLC which pays taxes like a partnership, based on IRS elections. Or, by default, a LLC is taxed as a corporation.
5. Professional Corporations (PCs)
A professional corporation is a specific type of corporation for professionals, such as attorneys, doctors, architects, and accountants. In most states, these professionals can form a corporation, in which each professional remains liable for his or her own wrongful professional actions, but not for those of the other members of the corporation.
A partnership is a separate legal entity with individuals who share the risks and benefits of the business. A partnership may include general partners, who bear full liability for debts and for actions of the partnership. It may also include limited partners who are merely investors and who do not share in the day-to-day operations of the business or liability. Partnerships can be messy unless agreements setting up the partnership fully cover all of the risks and potential complications. This is a where an experienced attorney is essential.
A. General Partnerships
A general partnership includes only general partners. Under this structure, all partners participate in the day-to-day operations of the partnership and all partners bear equal personal responsibility for debts and liabilities of the partnership.
B. Limited Partnerships
If a partnership has both general partners and limited partners, it is termed a "limited partnership." A limited partnership is an entity distinct from its partners. The general partners deal with the day-to-day operations of the partnership, and, again, they bear full liability for debts and for actions of the partnership, whereas limited partners usually do not participate in day-to-day operations of the partnership and bear no liability for debts or actions of the partnership. Limited partners are really more like investors rather than partners. Their risk is limited to the amount of their investment in the partnership.
Limited Liability Partnerships (LLPs) are formed with general partners, but all general partners are shielded from liability for the acts of other partners or employees. The LLP is similar to a limited liability company (LLC), but the LLP operates under partnership rules.
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