What Type Of Entity To Should You Utilize A When Starting A New Business?

By Author: Michael Smith
Total Articles: 268
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Selecting the type of entity to operate a business will depend on the objectives of the business. There are six main types of business entities one can operate under, namely, Sole Proprietorship, General Partnership, Limited Partnership, S Corporation, C Corporation and Limited Liability Company. There are advantages and disadvantages to each of the above types of entities.

The advantage of a sole proprietorship is that it requires no organizational formalities, and one can be up and running and doing business. Additionally, the income is subject to being taxed once at the individual level and thus avoids the double taxation required of a C Corporation. The major disadvantage of a sole proprietorship is that the owner is personally liable for all of the obligations and liabilities of the business.

Similarly, general partnerships also require no organizational formalities and can be established by an association of two or more persons with the intent to carry on as co-owners of a business for profit. Like a sole proprietorship, profits are taxed only at the individual partner level and are thus not subject to double ...
... taxation. In a general partnership, partners have an equal right to participate in the management as well as the ability to act in the name of the partnership and to incur liabilities on behalf of the partnership. Individuals intending on operating a general partnership should be aware that partners are subject to personal liability for the obligations and liabilities of the business including any liabilities incurred by the other partners on behalf of the partnership.

In a limited partnership there are two types of partners, Limited Partners and General Partners. Limited partners enjoy limited liability, with respect to the partnership. However, their participation in management of the partnership is also limited. On the other hand, a general partner does not enjoy limited liability for the obligations and liabilities of the partnership, but has the right to manage the partnership. Like the entities listed above, profits from the business are taxed at the individual partner level as well. However, limited partnership does require formalities for organization and may also require regular reporting to the governmental entity in the state it conducts business.

A C Corporation is the most common form of a corporation. Unless the shareholders file a form with the Internal Revenue Service (IRS) electing to be treated as an S Corporation and taxed under Subchapter S of the Internal Revenue Code, the corporation will be a C Corporation. Both types of corporations require annual formalities, including filing reports and fees with the applicable Secretary of State, appointment of a board of directors, drafting of by-laws for operating the corporation, and issuing stock certificates to its shareholders. The risk or liability associated with being a shareholder is usually limited to the amount of investment in the corporation.

However, the election to be treated as an S Corp at the establishment of the corporation is for tax purposes and is a major distinction between the entities. For example, a C Corp has to pay taxes on its income, and its shareholders will also pay a second level of taxes on the "dividends" received, thus the "double taxation dilemma." On the other hand, like partnerships, income from an S Corp to its shareholders is taxed at the individual shareholder level upon distribution to shareholders.

Lastly, a Limited Liability Company or "LLC" is a hybrid entity which allows its owners, who are referred to as "members" rather than shareholders to enjoy specific aspects from the entities listed above. Members may enjoy both the limited liability of a corporation and the single level of taxation of a partnership without the necessities of applying to the IRS for such status. Moreover, an LLC allows flexibility to its management structure, which can be managed by either its members or by appointed managers. Such flexibility distinguishes it from the typical corporation. Also, there are fewer restrictions on the persons or entities who can be members in the LLC.

The points discussed above are meant to highlight some of the benefits and differences between the several types of entities available, and is not meant to be an all inclusive list. Always consult with an attorney to determine what is appropriate for your specific business needs.

Let a lawyer assist you in choosing the right business entity and decrease the liability associated with a Sole Proprietorship and General Partnership by choosing either an LLC, a C Corp or an S Corp so that you can concentrate on your business.