Common Types of Business Organizations
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UPDATED: Jul 15, 2021
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When deciding what type of business entity to file your business as, carefully consider the objectives of the business and whether liability is an important concern for you. If you are concerned about your personal assets, a corporation may be the best business form, while if you are starting a small business with a minimal capital investment your needs may be better served by avoiding the hassles and formalities of filing as a corporation. If you are starting an enterprise with another person or several other people, you may need to form a partnership.
Benefits and Disadvantages of Filing as a Corporation
A corporation is by far the most structured and regimented of all the business entity types. It is a costly process to form a corporation. A corporation is considered an entirely separate entity from its owners, with legal rights and responsibilities. Operating as a corporation allows the owners of a corporation to avoid excessive liability should anyone sue the corporation. In fact, unless there is intentional misconduct, you can never be sued for more than your investment in the company.
The primary disadvantages of a corporation are its regimented structure, which requires annual meetings and minutes. Also, traditional corporations are double taxed. This means that you are not only taxed on your salary from the corporation, but the corporation must also pay taxes on its yearly profits. C corporations and S corporations are the two major types of corporations. A C corporation must pay income tax on profits and owners incur double taxation (once at the corporate level and again if they receive dividends). S corporations do not pay income taxes on profits. In an S corporation, the owners receive profits directly and pay income tax. S corporations are smaller than C corporations because its investors are limited to allow for a single taxation.
A sole proprietorship is the simplest type of business to form. In fact, many states do not even require a formal filing, unless the business name is something other than your own. As a sole proprietor, you have complete control over all the decisions of your business and all profits are directly considered your income. However, you are also open to unlimited liability, which could mean you lose your house and other personal assets should someone sue the business. A general rule of being a sole proprietor is to always have excellent business insurance.
The partnership offers business owners the greatest freedom with the most liability protection. In fact, a limited liability partnership will limit the partner’s liability to their investment amount, just like a corporation. Partnerships lack the stability of a corporation, in that if any partner walks away, the partnership dies. While most states make partnerships less formal than a corporation, you may still be required to file your partnership’s information with the state for liability purposes.
What is known as a general partnership is one in which each of the partners is liable for all of the firm’s debts, and the actions of one partner are binding on each of the other partners. Click this link for more on general partnerships.
Limited Liability Companies or LLCs
A limited liability company (LLC) is a company formed as a combination partnership/corporation in which profits of the business pass through and are taxable to the owners. The owners of an LLC are shielded from personal liability. Click here for more information on LLCs.