Here’s the quick on dirty on the most common business structures and how they can/should be used.
You have finally decided that now is the time to start your own business. You have adjusted your mindset, found your passion/purpose, and you are now in the planning phase. If you took the advice from my last article, Entrepreneurship 101, you are probably seeking the advice of an accountant, financial advisor, and/or business attorney to get the ball rolling.
One of the most common questions that comes up at this phase of planning is “what kind of business structure should I have?” There are several structures from which to choose, and each one depends on the particular needs of your business. Do you want your business to grow into a huge enterprise? Do you want a small mom-and-pop type of business? Is your business merely a hobby that brings in a little extra income? The answers to these questions lie within the following categories.
The easiest, and by far the most common form of business structure is the sole proprietorship. It is an unincorporated business owned and run by one individual, where there is no distinction the business and the individual owner. The owner is entitled to all profits and is responsible for all of the business’s debts, losses and liabilities. Forming a sole proprietorship does not require any legal action – as long as you are the only owner, this status automatically comes from your business activities. Keep in mind that depending on the type of business you have, you will still be required to obtain all necessary licenses and permits from the appropriate government agencies.
A corporation is an independent legal entity owned by shareholders. The corporation itself, and not the shareholders that own it, is legally liable for the actions and debts that the business incurs. Corporations are complex business structures as they have high administration fees and complex tax and legal requirements. There are two forms of corporations – C Corporations and S Corporations. C Corps are the regular corporations formed when you apply for such status from your state’s Secretary of State. C Corps are subject to the general tax rules affecting corporations found in Subchapter C of Chapter 1 of the Internal Revenue Code. Conversely, S Corporations are special types of corporations created through an IRS tax election. These type of corporations avoid the issue of double taxation that C Corps are subjected to.
A partnership is a single business where two or more people share ownership. To form a partnership, you must establish your business name, register your partnership with your Secretary of State and obtain all necessary business licenses and permits. In a partnership, each partner contributes to all aspects of the business including money, labor, property and/or skills. Each partner shares in the profits and losses of the business. Of extreme importance is the need for a partnership agreement which will dictate how the partnership is run, who is in charge of what duties, and how profits and losses will be allocated. Different types of partnerships include: General Partnerships (where profits, losses, liabilities and management are split equally among the partners); Limited Partnerships (where partners have limited liability and limited input with management decisions); and Joint Ventures (which act as general partnerships, but only for a limited amount of time or for a single project).
Limited Liability Company (LLC)
An increasingly popular and relatively new form of business is the limited liability company. An LLC is a hybrid type of legal structure that provides the limited liability of a corporation with the tax advantages of a partnership. To form an LLC, you must choose your business name, file the Articles of Incorporation with the Secretary of State, create an Operating Agreement and obtain the necessary licenses and permits.
Doing Business As (DBA)
Additionally, many people operate businesses under a DBA (“Doing Business As”) name. Your DBA is a fictitious name that is different from your personal name (in the case of a sole proprietorship), or from your legally registered name (in the case of a partnership, corporation or limited liability company). Some states require you to register your DBA with your county clerk while other states have no such requirement. It is important to consult your local attorney to make sure you comply.