What Form of Entity is Best for My Business?

What Form of Entity is Best for My Business?

April 23, 2020

So you want to start a new business? 

One of the first questions to think about, when starting/ launching a new business, is whether you want to form an entity for the business and if so what form of entity is best?

This can be a complex question/ issue, and therefore it is best to consult your professionals, your accountant and your attorney, to explore the various options and choices.

We can perhaps get you pointed in the right direction with a few general observations.

Sole Proprietorship

This is probably the most common form for a new business to take. It is nothing more than an individual who is in business for him or herself.

This is the simplest form for a business to take, and it costs nothing to form a sole proprietorship, unless possibly you want to operate as a sole proprietorship but with a business name in which case it might make sense to file a fictitious name registration with the state.

The biggest disadvantage of operating a business this way, as a sole proprietorship, is that the business owner/ sole proprietor will be personally liable/ responsible for any and all of the obligations and liabilities of the business and if the business incurs a substantial liability, for example, if someone is injured on the business premises or by the business and sues and wins, the resulting liability can take down both the business and the business owner/ sole proprietor personally.

General Partnership

Similar to a sole proprietorship in many ways is a general partnership. A general partnership is formed when two or more individuals (or entities) join together to start and launch a business.

A general partnership can be inexpensive to form and there is no filing to make with the state in order to form a general partnership, unless the general partnership would like to file a fictitious name registration as referenced above.The general partnership agreement, between or among the general partners, can be express (written) or implied (unwritten, informal). I would always recommend a detailed written general partnership agreement, if for no reason other than to avoid the inevitable misunderstandings.

As with a sole proprietorship, the business owners/ general partners of a general partnership are liable for any and all of the obligations and liabilities of the general partnership, so if the general partnership incurs a substantial liability not covered by insurance, the general partners can be financially ruined.

Limited Partnership

A limited partnership is similar in many ways to a general partnership, although the law provides that the "limited partners" of the limited partnership are not subject to the limited partnership's obligations and liabilities. But the general partner/s is/are subject to the limited partnership's obligations and liabilities.

Forming a limited partnership is more complicated than forming a sole proprietorship or general partnership, and, in general, the services of an attorney will be required to form a limited partnership and make the required filing with the state.

Limited Liability Company 

We generally recommend that our clients, when starting/ launching a new business get formed/ organized either as a limited liability company or as a corporation.

A limited liability company is an entity formed by filing articles of organization with the state. A limited liability company has a name selected and designated with that filing. Note that the entity is separate and apart from its owners and the owners are not subject to the entity's obligations and liabilities. This limited liability feature is the primary reason that we advise our clients to form an entity for a new business.

With a limited liability company, the rules of the road for operating the entity and the agreements made between/ among the owners regarding the limited liability company are typically set forth in a detailed operating agreement. Best crafted by an attorney with relevant expertise and experience. 

A limited liability company can have one or more members and if there is but one member we typically see a member's declaration instead of an operating agreement.

Limited liability companies offer many advantages over the other forms of business listed earlier and are favored particularly in real estate projects. Tax wise a limited liability company is a pass through entity that is not taxed itself but instead the members of the limited liability company are taxed as the general partners partners in a general partnership would be.

Corporations 

Finally we see many business owners form and launch as a corporation. A corporation is an entity formed by filing articles of incorporation with the state, and it offers its members/ shareholders limited liability. A corporation also has a continuous existence.Many advantages, which is why so many businesses are incorporated.

The rules of the road for the governing of a corporation are typically set forth in the articles of incorporation and the related regulations.The agreements between and among the shareholders regarding the operation of the corporation are typically set forth in a related close corporation or shareholders agreement.

A typical corporation is referred to as a C Corporation, and other corporations are S corporations. An S Corporation is a corporation which has taken an S election with the IRS by filing a completed form with them. An S corporation is taxed like a partnership, rather than like a typical corporation, referred to as a C corporation, that is taxed at the corporate level.

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