Ever entrepreneur needs to analyze which legal structure suits their business the best. Selecting an appropriate legal structure protects a business from threats of bankruptcy, double taxation and other foreseeable possibilities for incurring losses. The following explain some of the legal structures that entrepreneurs can consider before launching their businesses.
The sole proprietor is an unincorporated business with one owner who pays personal income tax on profits from the business. With little government regulation, they are the simplest type of business to set up or take apart, making them popular among individual self-contractors or business owners.
Best For: The benefit of the sole proprietorship is the tax advantage
General Partnership is formed when both the parties are involved in profit and loss sharing. The partnership is treated as a separate entity and can acquire its own name. The advantage of a general partnership is that it provides the flexibility of dividing the operating and profit sharing arrangement.
Best For: Owned and operated by several individuals
Limited Partnership is the type of partnership that consists of general and limited partners. General partners in limited partnership remain liable to the partnership obligation in contrast to the limited partners who are only liable to the level of investment they make in the partnership. Limited partners cannot exercise any authority over the management.
Best For: Individuals with a conservative approach towards investments
C Corporation is legally viewed as an individual entity, separate from its owners. It is treated as an individual entity; and is subjected to double taxation. Therefore, the profit incurred is taxed at the corporate level and also taxed when the shareholders incur dividend.
Best For:This structure is very dominant in the manufacturing and restaurant business
A corporation may choose to be an S Corporation to avoid double taxation, however it has to comply by certain conditions and requires that the shareholders must be the citizens of United States.
Best For: Provides flexibility to shareholders
Limited Liability Company (LLC)
Limited Liability Company (LLC) combines the tax advantage of a pass through entity with the limited liability advantage of the corporation. It allows the founders and investors to enjoy the flexibility in terms of duties and responsibilities. The members, who also are the owners, managers and officers are set forth in an operating agreement. LLC’ s can be exempted from double taxation unless agreed otherwise. One of the major advantages of LLC is that unlike the general partners in Limited partnerships, even the controlling person can limit their liabilities.
Best For: This structure is very common in start-ups where individuals cannot estimate the growth rate of the business in the initial years
Information about legal structures for new ventures can be found in various online resources, such as Entrepreneur.com and in books such as Managers and the legal environment: Strategies for the 21st century (7th ed.) by Bagley. For more information about legal structure, you may also want to consult a lawyer.
What is the most important piece of advice or resource that you can share with up-and-coming entrepreneurs when structuring their business?
Thanks for reading, and until next time… stay WISE!