Business operators have to make countless decisions to navigate through the choppy economic waters successfully. Perhaps no business decision requires more forethought and planning than the decision on the type of legal structure to form your business. Often referred to as a business form or business ownership structure, the type of structure you choose for your business determines several legal issues that include taxes, liability, and financial record keeping. The key is to find the best legal structure fit for the type of business you plan to run.
We start the legal structure section of business law by reviewing the three most common types of business forms.
Liability is the Big Factor
You never want to be personally on the hook for business debts or have to pay a judgment against your business by taking money out of your personal savings account. The way you structure your business at the onset of operations determines your personal liability. Several business structures shield some or all of your personal assets from a court proceeding, including a corporation, limited partnership (LP) limited liability partnership (LLP), and limited liability corporation (LLC). If you want maximum protection for your personal assets, avoid running your business as a proprietorship.
The Three Primary Legal Structures for Businesses
Whenever business owners review the pros and cons of each of three principle business forms, the amount of information overwhelms even the savviest entrepreneur. The most important factor to consider is making sure the business model you select matches the legal structure of your business. In addition to liability, you also have to consider taxes and government regulations, as well as the ease of setting up the legal structure for your business.
Sole Proprietorship
As the easiest legal structure to set up for a business, a sole proprietorship does not include many of the legal and financial protections granted to other forms of business structures. However, if you start a business as a sole proprietorship, you enjoy the freedom to call all of the business shots, from deciding how to price products to developing marketing strategies. On the other hand, a sole proprietor is the only person responsible for the success or failure of a small business. Sole proprietorships typically work best for one-unit businesses in the service industry, such as a restaurant or grocery store. Because of the complicated and ever-changing tax code, filing business taxes as a sole proprietor can be a daunting task.
Partnership
A partnership represents the simplest type of legal structure to form for businesses that have two or more operators. Although the legal paperwork requirements should not bog you down in a partnership arrangement, you have to worry about the exposure of each partner to legal liabilities. Businesses that operate as partnerships benefit from the unique expertise each partner brings to the table. However, disagreements often arise between partners that impede the growth of a business. Clashes between partners can range from benign conflicts about financial goals to disruptive arguments over business ethics.
Corporation
Also referred to as limited liability partnerships, corporations operate as distinct legal entities from the ownership group. Shareholders have the legal right to receive profits, but shareholders do not have the legal obligation to settle corporation debts. The sheer volume of paperwork and complicated tax statutes make forming a corporation time and cost prohibitive for many entrepreneurs. Professional corporations work great for professionals that operate businesses in the same niche, such as attorneys, physicians, and accountants.
Do not flip a coin to decide what type of legal structure works best for your business. Deciding on the right legal structure for your business requires the expertise of a licensed business law attorney.