After you’ve planned your business properly, it’s important for you to learn about the different types of business entities in order to choose the one best suited for your business.
We have outlined six different types of entities that you should consider when forming your business with the advantages and disadvantages to each.
Please keep in mind that professional advice may be needed before a final decision is made. If you want to have a filing service handle everything for you, use one of these incorporation services.
A Sole Proprietorship is the easiest and most common business structure that can be chosen when labeling a business. This type of business entity is unincorporated and can be run by one individual.
The owner of a Sole Proprietorship is entitled to all profit earned and is responsible in turn, for all debts, losses and liabilities as well. No formal action is necessary to form a Sole Proprietorship as long as you and you alone are the owner of the business. For an example, if someone deems themselves a freelance writer, they are a Sole Proprietor.
This specific business structure is the least expensive to form and the business owner has control over every decision that is made. A Sole Proprietorship is not separately taxed which leaves tax reporting and rates the lowest within this structure. However, one who runs a business as a sole proprietorship is held personally liable for all obligations of the business and can sometimes have trouble when raising funds or approaching investors.
It’s true that investors and banks aren’t as likely to invest in a Sole Proprietorship because there are no opportunities for the buying or selling of stocks within this type of business entity. There is also a perceived lack of credibility for repayment if the business were to fail within a Sole Proprietorship.
Like any businesses, you will need to obtain appropriate licenses and permits before you can operate. At state and local levels, which we will cover later.
Owners of a Limited Liability Company, or LLC, are generally referred to as members and can consist of one single individual, or two or more individuals. All members of an LLC are protected from personal liability in relation to business decisions and/or actions of the LLC.
For instance, if the LLC incurs debt or happens to be sued within a court of law, the member or members’ personal assets may be exempt. This however, doesn’t mean members are protected if something illegal is done.
When a business name is chosen for a Limited Liability Company, there are three major rules the members have to abide by before registration.
1. The name of the business must be different from any existing Limited Liability Company in the members’ state.
2. The business name has to indicate that it is an LLC or Limited Company.
3. The name cannot include words that are restricted by your state.
After registering, you will need to obtain any necessary business licenses and permits. These will vary depending on your state and industry and you will be able to find out what regulations you will need to adhere to by clicking your state on our Start Your First Business section.
Cooperatives are common in industries such as healthcare, retail, agriculture, food service and forming this type of business is generally different any other business structure.
Cooperative businesses or organizations are owned and operated to benefit the general public. This is because many times the profit and earnings of the company are distributed among these ‘owners’ who have bought a share in the business.
Cooperative businesses will usually have an elected board of directors or officers who run the business while the member-owners have a voting power to decide any changes within the running of operations. Depending on the type of Cooperative a business participates in, such as credit unions and various utility Cooperatives, like a locally grown grocery market, may be exempt from any state and federal taxes due to the nature of their structure.
A Cooperative business is generally decided on by the community as a whole and can often bring less of a disruption than say a chain corporation. This type of structure is a democratic entity that ensures top quality customer service with an appealing philosophy for smaller investors.
If you are leaning toward starting a cooperative business, there are a variety of government sponsored grant programs that offer funds for establishing and operating this type of entity.
Corporations have much more of an advantage when it comes to raising capital for startup and ongoing business costs because of the large opportunity for stock options.
Corporations are allowed to file federal and state taxes separately from the owners and partial owners however, a corporation is a time-consuming/expensive business to start and operate. They tend to have costly administrative fees, complex legal requirements and are highly regulated by federal, state, and local agencies.
A partnership is a business label used for two or more people who share ownership of one single business and is typically an inexpensive and easily formed operative structure.
Entrepreneurs who are looking to run a partnership will spend plenty of time developing a legal partnership agreement since disagreements are possible. Business owners working within a partnership will need to consult with one another on all decisions and resolve disputes immediately.
There are three types of partnership arrangements to consider when choosing this type of business structure including general partnerships, limited partnerships and joint ventures. Joint ventures act as a general partnership, but can only be assigned for a limited time.
Sometimes referred to as an ‘S Corp’, an S Corporation is created through an IRS tax election and before a business can form this type of structure it should first file as a corporation and determine if your business will qualify under the IRS tax stipulations.
After the business is considered a traditional corporation, all shareholders must then file and sign a 2553 Form for the election to become an S Corp. Be aware that an S Corporation holds a more strict operational process than any other type of business structure.
An S Corporation allows many various tax exemptions and savings for businesses as shareholders and employees can write off benefits like health and life insurance as taxable income.
After you have an idea for which entity is the most appropriate for your business, you may want to seek additional professional help to be sure that you are making the right decision. Once you have done that, you’re ready to become official and plan it out properly!