A Quick Guide to Business Structures for Entrepreneurs

Posted on 1/19/2023, 9:27:07 AM

Once you're done with the big-picture planning for your business, you'll get to focus on the finer details — one of which is its legal structure.

Your legal structure will impact how you file your business taxes, the roles of different team members, and your liability as an owner if someone files a legal claim against your startup. Unfortunately, there is no single best choice for the type of business entity you chose, as it all depends on your goals. That said, we've outlined the most common types of business structures to help you decide for your company now and down the road:

Sole Proprietorship

The simplest structure is the sole proprietorship — where, in essence, you are your business. According to the U.S. Small Business Administration, these are owned and operated by a single person and can be named after your name.

The main advantage of this structure is that it's relatively simple to set up and is inexpensive. In terms of operations, you'll get complete and total ownership of the business, allowing you to be in control of all the necessary decisions. Taxes are also simple to do, as they're usually just computed and paid for based on the owner's individual income tax.

However, it does not create a legal separation between you and your business — so any situation will fall entirely on you as a business owner. For instance, if any legal claims are made against you, your assets are fair game for creditors and in terms of legal liability.

Partnership

Compared to a sole proprietorship, a partnership allows two or more people to share ownership. Each owner should contribute to all aspects of the business and share profits and losses as they occur.

A partnership is also relatively easy to set up and is relatively inexpensive. As this business structure means you'll have at least one other person working with you, you'll get to pool resources and share skills and expertise.

On the flip side, all owners in a partnership will be held liable for the business should a problem occur. This means partners aren't just responsible for their actions, but that of their partners as well.

Corporation

Corporations are separate legal entities from the owners and have most of the rights and responsibilities they possess. This means they can loan and borrow money, sue and be sued, hire employees, own assets, and pay taxes at a corporate rate.

The Balance notes that forming a corporation is a little more complicated and costly compared to a sole proprietorship or partnership. This is because you must file several documents that must be prepared and filed. For instance, corporate bylaws are needed to govern a corporation's policies, while articles of incorporation must be submitted to the state in which they are doing business.

Limited Liability Companies (LLC)

A limited liability company (LLC) offers the tax flexibility of a partnership with the limited liability of a corporation.

Owners, otherwise known as "members," are liable only up to the extent of their investment in the company. Tax-wise, LLCs can enjoy the "pass-through" benefits of a partnership, where profits flow through to members and are taxed under their individual income tax.

While this structure's availability may vary from state to state, a ZenBusiness guide to LLCs notes how the general gist of the application process remains the same. One needs to name their LLC, choose a registered agent, file the organization's articles, create an operating agreement, and apply for an Employment Identification Number (EIN). Depending on your industry, you might also be required to secure state and local licenses to operate in your desired state legally.

When you've chosen your legal structure and are ready to put up your own business, our post on 'Affordable Entrepreneurship: How to Build A Successful Startup Without Going Broke' can help guide you to ensure your startup is run smoothly from the get-go. 

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