- posted: Oct. 20, 2023
Choosing a business structure is one of the most important decisions for any entrepreneur starting a new venture. Business entities are designed to protect the owners from personal liability and to allow the business to operate efficiently. Each type has advantages and disadvantages.
Selecting the business structure depends on the nature of the business and the goals of the owners and initial investors. This also includes the investor tax strategy. The four major types include:
- Sole proprietorship — This is the simplest form of business ownership. Proprietorship applies only to a company owned by a single individual. With a sole proprietorship, there is no legal distinction between the business and the owner. The proprietor is personally liable for any debts and obligations generated by the business. Also, the tax liabilities for profits pass directly through the business to the owner’s personal federal/state income tax returns. The advantage of a proprietorship is that it is the lowest cost option for business formation and accounting. The disadvantage is that there is no personal protection from any business debts and obligations.
- Partnerships — A partnership may be created when two or more people enter a business venture. A partnership is like a sole proprietorship, except with more than one owner. There is no legal distinction between the business and the partners. All partners are fully liable for all partnership debts and obligations. Also, the partnership profits pass directly to each partner’s personal income tax returns. Partnerships have relatively low start-up fees and recurring accounting fees. However, like with a sole proprietorship, there is no protection from individual liability.
- Limited liability companies — A limited liability company (LLC) may have one or more owners called “members.” There is a legal distinction between the business entity and its members. However, the business profits pass through the company to each member’s personal income tax returns. The LLC pays no income taxes and only files informational returns to the taxing authorities. Creating an LLC costs more than a partnership, and the recurring accounting costs are higher. However, in most situations, the members are not personally liable for the company’s obligations.
- Corporations — A corporation is a business that is entirely separate from its owners. The owners are not liable for the company’s debts and obligations, and the corporation files and pays income taxes separate from its owners. As such, corporations are known as a “double tax” entity. Corporations are the most expensive type of entity to set up and operate. The advantage of a corporation is that the structure often allows the company to attract investment capital from those who have no ownership interest in the venture.
There are other business structures, such as limited liability partnerships, that may be appropriate in certain situations. To choose the entity that best suits you, you should consult with an experienced and qualified business lawyer who can explain your options. Too often, mistakes are made in choosing the correct entity, and these mistakes can be costly.
From our offices in Pleasanton, Garcia & Gurney, A Law Corporation represents business clients throughout California’s San Francisco Bay area. If you are starting a new business and wish to discuss your options, feel free contact us online or call 925-468-0400 to schedule an initial consultation.