Choosing a form of business for a product or type of service depends on the liability an individual is willing to assume, how much involvement an individual wants in the day-to-day work, and how much control an individual wants over the business. Prior to making a choice, an individual must understand each form of business as well as the risks and rewards for each. There are numerous forms of business, including sole Proprietorship, Partnership, Limited Liability Partnership, Limited Liability Company, Franchise, Corporation, and S-Corporation. Sole Proprietorship
A sole proprietorship can be any person who owns a business. This form of business is not a legal entity and is one of the simplest to setup. The cost to set up a sole proprietorship is reasonable and the business owner is required only to register the individual’s name and obtain the necessary licenses for the business. The business owner can combine personal and business assets into one account and customers usually pay owner directly or use the name of the business on checks. One negative aspect of a sole proprietorship is the business owner liability for any business debt; including lawsuits from creditors should the business fail (The Basics of Sole Proprietorships, 2005).
The sole proprietorship as a preferred form of business is for an individual who has minimal start-up funds. Additionally, the business owner will be able to start-up quickly without excessive legal paperwork. Examples of this type of business are a home daycare or a nail salon. Partnership
A partnership consists of two or more owners who do not file to become an LLC or a corporation (Nolo, 2013). There are two types of partnerships general and limited partners. A partnership is the least expensive co-owned business and the easiest to set up. Partners in business are both liable for the business regardless of who sets up the deal (Nolo, 2013). The paperwork to set up a partnership is simple. Two people can come together and decide to start a business and the individuals automatically have a partnership. The partners must only register the business with the state (Nolo, 2013).
The preferred form of business that will require a partnership is a business that needs both people to make the business successful. For example, usually one person may be good at marketing whereas the other person is good at creating items for the business. These people also have to be aware and not as concerned with the amount of liability that will fall on them if the business is a failure. An example of a preferred business form of a partnership would be a catering company. Limited Liability Partnership (LLP)
In an LLP general partners are not personally responsible for the debts and obligations of the partnership. Each partner is responsible for the capital contribution the individual makes to the partnership (Cheeseman, 2010). Most states have criteria for a business to be an LLP. The businesses that generally meet the criteria are accountants, lawyers, and medical professionals (Cheeseman, 2010). The personal assets of the partners are protected and partners enjoy the tax benefit of a general partnership. Profits and losses are reported on the individual partner’s tax return (Cheeseman, 2010). Limited Liability Company (LLC)
A group of three people decide to open a daycare. While looking at various business options, they decide to set the business up as an LLC. This type of business is a statute of the state and has owners called members. An LLC can have one member or multiple members, including businesses, individuals, and corporations (Internal Revenue Service, n.d.). Most entrepreneurs choose to set up the business as an LLC (Cheeseman, 2010). Businesses such as banks and insurance companies are not classified as an LLC (Internal Revenue Service, n.d.). A Limited Liability Company is separate from its members. Members’ personal assets are protected from business debts (Cheeseman, 2010). For tax purposes an LLC can choose to be taxed as a corporation or partnership. An LLC with one member is treated as part of the owner’s tax return. This is called a disregarded entity (Internal Revenue Service, n.d.). Franchise
Franchises offer the opportunity to own a small business without developing a whole new company (Julia, 2013). Small-business owners pay companies for the rights to use trademarks, services, and products in return for support and company guidelines on how to run that particular businesses (Julia, 2013). Merry Maids is a residential cleaning business. The company was founded in 1979 and has more than 900 franchises in the United States and Canada. Franchise owners benefit from ongoing corporate support through regional meetings, seminars, annual convention, and newsletters (Julia, 2012). The initial franchise fee includes the equipment, supplies, and Merry Maid products. Business owners also have a customized website. Corporation
A corporation is “a legal entity that is separate and distinct from its owners” (Investopedia, 2012, para. 1). Each corporation has the rights and responsibilities of an individual, which includes the payment of taxes. A corporation has limited liability and shareholders are not held personally liable for the corporation’s debts. A board of directors is appointed and oversees the management of the company (Investopedia, 2012). The individuals who purchase stock of a corporation become part owner. The shareholders financially benefit from the appreciation of the stock but are not held liable for the organization’s debt. A company that prefers to appear more professional and make the transfer of ownership easy because of the limited liability is better served incorporating. S-Corporation
An S-corporation has some tax benefits and still provides business owners with the liability protection of a corporation (S Corporation Basics, 2005). In an S-corporation the profits of the corporation pass through directly to the shareholders tax returns (Forming an S-Corporation to Reduce Self-Employment Taxes, 2012). S-corporations do not pay corporate income taxes. Owners of an S-corporation who do not have inventory can use the cash method of accounting. A scenario in which an S-corporation is the preferred form is that of a makeup artist whose name is Angela. Angela had net profits of $45,000 last year. Angela incorporated her one-person business into an S-corporation, which is a separate entity. Angela is wearing two hats: she is the sole employee and the sole shareholder of her corporation.
As one can see, there are many forms of business to choose from with varying start-up costs and legal requirements. Additionally, each form has a different level of involvement and risk. A sole proprietorship has financial risk, but the owner remains in control and involved in the daily operations. A corporation removes the financial risk from the individual owners and places the responsibility on the entity. From one end of the spectrum to the other is filled with differences that include possible tax benefits. Ultimately, the choice is left to the individual based on wants and needs.