Structures of Business Ownership

Learn about the advantages and disadvantages of corporations, limited liability companies, partnerships, single proprietorships, and other business forms.

You'll need to know your choices before you can select how you want to organize your company. Here's a quick summary of the most prevalent business structures:

• Sole proprietorship 
  
• limited partnership
  
• limited liability company (LLC)
  
• corporation (for-profit)
  
• nonprofit corporation (not-for-profit)
  
• cooperative
  

Sole Proprietorships

A sole proprietorship is a one-person business that is not incorporated or registered with the state. To start a sole proprietorship, you don't need to do anything specific or file any paperwork; you simply go into business for yourself.

A sole proprietorship is legally inseparable from its owner; the company and the proprietor are one and the same. This implies that the business owner is personally accountable for any business-related responsibilities, such as debts or court judgments, and declares business revenue and losses on his or her personal tax return.

Sole proprietorships are appropriate for businesses where personal responsibility isn't a major concern, such as small service businesses where you're unlikely to be sued and won't need to borrow much money for inventory or other expenses.

• Pros of a Sole Proprietorship, There is no paperwork or costs involved in forming a sole proprietorship, and you keep 100% of the earnings.
  
• The disadvantages of sole proprietorships include a lack of limited liability protection and the likelihood that investors would supply money.
  

Partnerships

A partnership, on the other hand, is a company owned by two or more persons that hasn't filed papers to become a corporation or a limited liability company (LLC). To create a partnership, you don't need to file any paperwork; the agreement takes effect as soon as you start a business with another individual. The partnership's owners pay taxes on their share of the business revenue on their personal tax returns, much like a sole proprietorship, and they are personally responsible for the full amount of any business obligations and claims. Both sole proprietors and partners in a partnership may qualify for the 20% pass-through tax deduction established by the Tax Cuts and Jobs Act (TCJA).

Partnerships, like sole proprietorships, are appropriate in businesses where personal responsibility isn't a major concern.

• Partnerships have the advantage of having no formation paperwork or fees, as well as pass-through taxation.
  
• Cons of Partnerships There is no limited liability protection for partners' activities, and earnings and decision-making are shared.
  

Limited Partnerships

Limited partnerships are difficult to set up and manage, making them unsuitable for the ordinary small business owner. Limited partnerships are often formed by a single person or corporation (the "general partner") who will seek investment from others (the "limited partners").

The general partner is responsible for the day-to-day operations of the limited partnership and is personally accountable for any business obligations (unless the general partner is a corporation or an LLC). Limited partners having little influence over day-to-day business decisions or operations in exchange for not being personally responsible for business debts or claims. If you're interested in starting a limited partnership, speak with a professional.

• Pros of Limited Partnerships: The organization is appealing to investors, and limited partners benefit from limited liability and pass-through taxation.
  
• Cons of Limited Partnerships: General partners are not protected from liability in the event of a partnership dispute, and you must complete formation documents and pay filing costs.
  

Limited Liability Companies (LLC)

Forming and running an LLC is a little more difficult and expensive, but it's well worth the effort for certain small enterprises. The major advantage of forming an LLC is that it reduces the owners' personal liability for corporate obligations and court judgements.

Limited liability companies (LLCs) restrict personal liability for company debts and claims. However, LLCs are more like partnerships when it comes to taxes: the LLC's owners pay taxes on their portions of the business revenue on their personal tax returns.

LLCs are ideal for business owners who are concerned about being sued by customers or accumulating a large amount of corporate debts, or who have significant personal assets they wish to shield from business creditors.

• Advantages of LLCs include limited liability for all shareholders, ease of formation (in comparison to corporations), and a flexible management and ownership structure.
  
• The disadvantages of LLCs are that you may be liable for state franchise taxes and that you must file papers and pay filing costs.
  

Corporations

Creating and maintaining a corporation is more difficult and expensive than forming and operating an LLC, but the structure restricts the owners' personal liability for business obligations and court judgements against the company.

The fact that a corporation is a separate legal and tax entity from the persons who own, control, and manage it distinguishes it from all other forms of companies. Because of this distinction, a company's owners do not use their personal tax returns to pay taxes on corporate earnings; instead, the business pays these taxes. The TCJA introduced a single flat tax rate of 21% for businesses, which is substantially lower than the 15% to 35% rate that firms paid previously. Owners only pay personal income tax on money they get from the business in the form of wages, bonuses, and other benefits.

Corporations make sense for business owners who either (1) face consumer lawsuits or a large amount of business debts, or (2) have significant personal assets they want to safeguard from business creditors.

• Pros: The company is an appropriate business form for investors since ownership can be readily transferred and directors and shareholders have little responsibility.
  
• Cons: Corporations are costly to create and manage; you'll have to pay filing costs, yearly fees, additional taxes, and corporate formalities (such as board meetings and record-keeping).
  

Nonprofit Corporations

A nonprofit corporation is one that was established for the purpose of pursuing philanthropic, educational, religious, literary, or scientific goals. Individual and corporate gifts, as well as public and private grant money, can help a nonprofit raise much-needed finances. Because of the advantages they provide to society, the federal and state governments do not usually tax nonprofit businesses on money they receive that is connected to their charitable mission.

• Benefits of Nonprofit Corporations include advancing a philanthropic purpose, being eligible for tax-exempt status, and being appealing to contributors and volunteers.
  
• Nonprofit corporations have disadvantages in that they must adhere to nonprofit regulations and corporate formalities, and earnings must be utilized to advance the goal.
  

Cooperatives

Some individuals fantasize of creating a genuine equals business, one that is owned and run democratically by its members. These grassroots business organizers frequently refer to their companies as a "group," "collective," or "co-op," however these terms are typically used informally rather than legally. A consumer co-op might, for example, be founded to manage a grocery shop, a bookstore, or any other type of retail business. Alternatively, a workers' co-op might be formed to produce and sell arts and crafts. Most states have rules governing cooperative formation, and in certain jurisdictions, you may file papers with the secretary of state's office to get your cooperative recognized by the state.

• Advantages of Cooperatives include employee and consumer appeal, as well as financial options (such as grants).
  
• Cons of Cooperatives include the fact that the entity is not available in every state, the fact that not every type of business may create a cooperative, and the fact that owners make less money.