Types of Business Entities

business entities

The most important choice a new business owner will make when starting a business is the legal structure of the company. Taxes, personal liability, and proper record-keeping must all be taken into consideration when choosing a business entity for the company. There are several choices, and the right choice depends on the business owner’s specific needs and goals for the company.

Sole Proprietorship
This is the most common business entity because it is easy to set up. The requirements are minimal as well. A sole proprietorship is a business owned by a single person. This option allows the owner to register a unique business name if operating under any name other than a personal name. An important aspect to be aware of is that there is no personal liability protection with a sole proprietorship. The proprietor is legally responsible for any debt acquired, including bankruptcy. When it comes to taxes, all tax liability is personal liability and is filed along with the owner’s personal taxes each year. With this option, net profit is only taxed once.

Partnership
A partnership is owned by two or more people. Each individual is personally responsible for all debt, including bankruptcy of the business. Like the sole proprietor, taxes are filed individually on personal income tax for each partner. How income, losses, and gains are divided as determined by an agreement made by each partner, which will determine the income taxed on each person’s individual tax return.

Corporation
A corporation is a legal entity that is created for the purpose of conducting business. Unlike a sole proprietorship or a partnership, the corporation is a separate entity from the owner or owners. All personal liability is waived because the corporation is responsible for all debts, including bankruptcy. This offers protection for the individual that sole proprietorship and partnerships do not. The corporation is also taxed as a separate entity. Some special circumstances can be included with corporations for the purpose of taxation.

The C Corporation is taxed at the entity level, and can be taxed again if dividends are distributed to shareholders. This is one of the greatest disadvantages of a corporation.

One way around the double taxation is through what is known as an S corporation. Specific criteria regarding stocks, number of shareholders, and types of shareholders must be met to qualify. If the corporation does qualify as an S Corporation, taxation is handled similarly to partnerships or LLC. This essentially means that income, losses, and gains will be passed to shareholders and the corporation will not be taxed at the entity level.

LLC
Limited Liability Corporations are quickly gaining popularity. This business entity allows owners to take advantage of both corporation and partnerships benefits. Income, losses, and gains can be passed through to the owners like a partnership, but the business owner is protected from personal liability. This is useful in cases like bankruptcy as the individual would not be responsible for that loss.

Careful consideration should be given to the choice of business entities. While it may be possible to change to another entity type later, it is difficult to do so. When making the choice of entity type, consider who will own the business, how the business will distribute profits, and the estimated profits and losses the business will generate.

This article was written by Christina Corbett, an MBA student who’s also an up-and-coming writer who looks forward to sharing her knowledge to the world. She writes this on behalf of Weintraub & Selth . If you’re looking for Business Bankruptcy lawyers in Los Angeles, make sure to check them out to see why they should be your number one choice for your business.


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One Response to “Types of Business Entities”

  1. Greg Holbert says:

    Great post, Christina!

    I didn’t know there were so many types of business entities. When I was looking up more information on these types of entities, I stumbled upon one that you didn’t list. This is taken from irs.gov:

    S corporations are corporations that elect to pass corporate income, losses, deductions and credit through to their shareholders for federal tax purposes. Shareholders of S corporations report the flow-through of income and losses on their personal tax returns and are assessed tax at their individual income tax rates. This allows S corporations to avoid double taxation on the corporate income. S corporations are responsible for tax on certain built-in gains and passive income.

    To qualify for S corporation status, the corporation must meet the following requirements:
    1.Be a domestic corporation
    2.Have only allowable shareholders including individuals, certain trust, and estates and may not include partnerships, corporations or non-resident alien shareholders
    3.Have no more than 100 shareholders
    4.Have one class of stock
    5.Not be an ineligible corporation i.e. certain financial institutions, insurance companies, and domestic international sales corporations.

    In order to become an S corporation, the corporation must submit Form 2553 Election by a Small Business Corporation (PDF) signed by all the shareholders.

    Keep up the great guest posting! Thank you guys for giving such great information for free!

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