Proprietorship, Partnership, Corporation, or LLC? Which Structure is Best For Your Business
by Carrie Hinkel on May 7th, 2008
Starting a small business can be confusing, in terms of deciding what "type" of business yours will legally be defined as. There are five main types of business organizational structures: sole proprietorship, general partnership, limited partnership, corporation and limited liability company (or LLC). Each is set up and operated differently, and each is looked at differently in terms of taxes and legal protection. Knowing which one is right for you and your business is crucial, and can save you from future legal and tax headaches.
The five main types of business structures
Sole Proprietorship – This type of business is owned by a single individual that earns all the profits and is responsible for all the losses. A sole proprietorship is the simplest of all business structures, and therefore the easiest to set up. However, it is also the riskiest because your personal assets are not protected if a lawsuit is brought against your company. There are also no tax benefits for sole proprietorship owners. While this type of business may be suitable for a small home business, most business owners will find that a sole proprietorship is too risky for their company.
General Partnership – An ownership agreement where more than one person is involved. All parties share equally in the profits and losses of the business, as well as full liability for debts. The general partners also share equally in any personal liability. A general partnership can be formed with or without a formal written agreement and there is no filing requirement with your state. One thing to keep in mind with a partnership is that partners may not always have the same goals or direction for the business, as well as different ideas on how to spend the business’ money.
Limited Partnership – A business partnership where the partners are only responsible for their own investment. Typically, limited partners are seen as "silent partners" who have invested in a business but have no management authority. Since the general partners share the personal liability for the business, the limited partners do no share in this risk. One of the disadvantages of a limited partnership is that there is several state filing requirements..
Limited Liability Company (LLC) – A flexible business structure that allows for the simplicity of a partnership with personal liability protection for the owners. While an LLC doesn’t have to follow the rigid requirements of a corporation, most states do require a formal operating agreement as well as the filing of an annual report.
Corporation – A business entity which has certain rights and privileges (such as owning assets, purchasing property, etc.) similar to an individual. A corporation has a limited liability of its debts and the shareholders’ (owners’) assets are not at risk. Corporations must follow a specific management structure and formal policies in order to remain a corporation. There are annual filing fees for a corporation as well as annual paperwork requirements from the state.
The choice of a business structure is an important one and shouldn’t be taken lightly. For more information, please take a look at the IRS’ website.