How Your Legal Structure Defines Your Business
Deciding on a legal structure for your business is a critical first step. Here are the most common structures and some details about each to help you decide.
1. Sole Proprietorship:
A sole proprietorship is, essentially, a one-person operation without any formal structure. You may have a sole proprietorship without even knowing it. For example, if you are a musician that plays gigs on the weekends or a nature photographer that sells your photos at local festivals you are likely considered a sole proprietor. However, you are not exempt from carrying the necessary local business licenses or paying taxes on your income. You are also personally responsible for paying any debts of the business. For example, if you were to lose a lawsuit or fail to pay a vendor, that person could come after your home, your car, and your valuables. Finally, if you operate under a name like “Bob’s Band” you must register the name of your business with the state.
2. Limited Liability Company (“LLC”):
An LLC offers protection for your personal assets because it shields you from personal liability for business debts. However, there are certain formalities that you must comply with, so speak with an attorney about how to make sure you are protected. Also, not all liability can be avoided with a LLC – for example, if you personally injury someone or personally guarantee a bank loan, you are still personally liable. Your taxes are reported just like they are for a sole proprietorship (but you can make different elections). Running a LLC is easy and does not have many of the formalities that operating a corporation requires. LLCs are a great option for small, family operated businesses or partners.
3. General Partnership
A general partnership is formed as soon as business activities commence between two or more people, regardless of whether there is a formal agreement in place. Generally speaking, a partnership does not need to register with the state and its members are not protected from personal liability. In fact, you could be responsible for the other partners’ actions or liabilities incurred on behalf of the business. A partnership must still comply with state laws regarding name registrations, business licenses, and the like. The partnership does not pay tax, but each partner pays tax on his or her share of the income and can deduct his or her share of the expenses. Limited partnerships or limited liability partnerships are other possibilities, but speak with your attorney regarding the technicalities of those structures.
A corporation is the entity that requires the most “upkeep.” It is best designed for a business which is expected to grow significantly and would wish to issue shares and raise a significant amount of capital. It is not designed for the casual mom and pop operation because there are a number of formalities that must be followed to ensure ongoing liability protection (much like a LLC ). Speak with your business attorney about how to make sure you are complying with those formalities.
Just to get started, the corporation must file articles of incorporation, create corporate bylaws that dictate the operation of the company and issue shares of stock in the company. There are also special and complicated tax considerations related to forming a corporation, so you should discuss those in detail with your attorney and accountant.
No matter what entity you choose, it is important to discuss your options with an attorney who can help you evaluate your goals and what business entity will help you achieve them.
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These materials have been prepared by Statman, Harris & Eyrich, LLC for informational purposes only and are not legal advice. This information is not intended to create, and receipt of it does not constitute, an attorney-client relationship. Internet subscribers and online readers should not act upon this information without seeking professional counsel, as the advice appropriate for your particular circumstances may vary.