By Charlestien Harris
When you decide to start a new business, choosing the right structure is an important decision to make early on. The one you choose can affect things like the company’s taxes, your personal liability, and how you must operate your business.
Businesses produce most of the products and many of the services we enjoy in the world today – especially small businesses. So this week, I thought I would introduce the different types of structures a business can be classified as. This is all a part of financial literacy month and trying to educate my audience about this very important financial topic.
There are several types of business structures, some of which may be familiar to you, but others will probably be unfamiliar. Knowing what each of these business set-up types means just may help you to decide if you want to go into business alone or have a partner to share in the responsibilities. Sole proprietorship, partnership, corporation, S corporation, and Limited Liability Company (LLC) are the main types of business structures. This certainly does not exhaust the list. Knowing the definition of a few of the business set-up types may help you to make a clear decision when it comes to starting up a business.
- Sole Proprietorship
A sole proprietorship is a non-registered, unincorporated business run solely by one individual proprietor with no distinction between the business and the owner. The owner of a sole proprietorship is entitled to all profits but is also responsible for the business’ debts, losses, and liabilities.
• Advantages: You’re the boss, you keep all the profits, start-up costs are low, and establishing and operating your business is simple.
• Disadvantages: You have unlimited liability for debts as there’s no legal distinction between private and business assets, your capacity to raise capital is limited, all the responsibility for making day-to-day business decisions is yours, and retaining reliable employees can be difficult. - Partnership
A partnership is a formal agreement made by two or more parties to jointly manage and operate a business. A partnership may be between two people, two businesses, or shared among any number of people and organizations.
• Advantages: You have an extra set of hands, you benefit from additional knowledge, you have less financial burden, and there is less paperwork.
• Disadvantages: You can’t make decisions on your own, you will have disagreements on how to run the business, and you will have to split the profits. - Corporation
A corporation is a legal entity that is identified for business purposes separately from its owners. Under the law, corporations possess many of the same rights and responsibilities as individuals. An important element of a corporation is limited liability, which means that its shareholders are not personally responsible for the company’s debts.
• Advantages: Shareholders are normally only financially liable for the amount of their investments, which protects their personal assets, easy ownership transfer which means transferring ownership is relatively easy through buying or selling shares with some limitations. That means it’s often much easier for an owner to leave the company. A corporation is a distinct legal entity and this means that the business is governed by a board of directors.
• Disadvantages: A governing board could be a disadvantage; if you want to maintain full control of your business, a different structure may suit you better. Another disadvantage is that a corporation is more complicated to form. Corporations require more initial documents and filing fees such as tax exemption paperwork, incorporation documents, and paying state filing fees, attorney fees, as well as annual documents and other fees. This structure may be a little more complicated than you want to start a small business. - S Corporation
S corporations are corporations that elect to pass corporate income, losses, deductions, and credits through to their shareholders for federal tax purposes.
• Advantages: One major advantage of an S corporation is that it provides owners limited liability protection, regardless of its tax status. Limited liability protection means that the owners’ personal assets are shielded from the claims of business creditors – whether the claims arise from contracts or litigation.
• Disadvantages: One main disadvantage is the lengthy application process. Filing your articles of incorporation with your secretary of state can be quick, but the overall process of incorporating is often a long one. You will likely have to go through extensive paperwork to properly determine and document the details of the organization and its ownership. - Limited Liability Company
A Limited Liability Company (LLC) is a business structure in the U.S. that protects its owners from personal responsibility for its debts or liabilities. This is the most common form of business structure that I see as a financial counselor.
• Advantages: Owners are not personally responsible for the losses and debts of the company, the company is a separate legal entity, there is no restriction on the number of possible owners, and it can be easier to access capital and resources.
• Disadvantages: It takes longer to set up due to the formal company registration process, taking care of accounting and taxes is more complicated than for some other business structures, and you must pay your shareholders dividends – you cannot keep all the profits your company makes.
The best business structure type for you will depend on several factors, such as: personal preference, personal liability risk, tax structure, time, and your ability to raise capital to start the business.
These are just a few of the business structure choices you can choose from. You should do your homework and research all relevant information that will help you to make the best choice for your business.
Southern Bancorp offers small businesses technical assistance and small business loans backed by the Small Business Administration that provide small businesses with the financial assistance needed to get started. We also provide lending capital for many established businesses as well. Southern Bancorp Community Partners’ Chief Lending Officer, Ralph Brown, can be reached at ralph.brown@banksouthern.com.
For more information on this and other financial topics, visit www.banksouthern.com/blog, email me at Charlestien.Harris@banksouthern.com, or call me at 662-624-5776.
Until next week – stay financially fit!