When it comes to starting a business, the process can be both exhilarating and overwhelming. For those who are just getting started with registering their business, the task of selecting the right business structure may seem especially intimidating. With various entities to choose from, it is not uncommon for budding business owners to feel slightly in over their heads.
If this sounds like you, don’t worry. Starting a business requires taking things one step at a time, and part of the process includes learning about the different types of business structures. In this article, you will receive a breakdown of three different business structures: limited liability companies (LLCs), corporations, and sole proprietorships. As you read through the article, keep in mind that each business structure comes with its own pros and cons, which will be covered in more detail in Part II of this two-part series.
#1 Limited Liability Company (LLC)
A limited liability company, or LLC, is a type of business entity in which the owner’s personal liabilities are kept separate from business liabilities. This means that the owner’s personal assets – such as vehicles, houses, and savings accounts – will not be used to pay off the debts of the business. An LLC can have one or multiple owners, known as “members,” and conducts business under its name, receives its own tax ID number, and can open its own bank account. In order to establish an LLC, the owner (or owners) must choose a name for the LLC following the specific naming guidelines of their state, register the name with the Secretary of State, and file articles of organization with the appropriate government office.
A corporation is a type of business entity that operates separately from its owners. In other words, a corporation is treated as an independent legal entity that can purchase, sell and own property, enter into contracts, and be a party in a lawsuit. Corporations are owned by one or more people, often referred to as “shareholders,” and are managed by a board of directors. The requirements for forming a corporation will depend on the laws of the state in which you choose to incorporate.
Two common types of corporations are C-corps and S-corps. Earnings in a C-corp are taxed on the business (corporate) level, and business owners file their own taxes separately, a process referred to as “double taxation.” This type of structure allows for shareholders to be paid in dividends, which are reported in tax filings separate from the owners’ personal taxes. In an S-corp, profits are not doubly taxed. Shareholders report earnings from the business on their individual taxes. An S-corp requires one hundred or fewer shareholders.
#3 Sole Proprietorship
Sole proprietorships are the most common type of business entity. In fact, the majority of individually-owned new businesses are sole proprietorships. With a sole proprietorship, an individual (or married couple) has full ownership of the unincorporated business. Your business will automatically be considered a sole proprietorship if you conduct business activities without registering as any other kind of business.
Sole proprietorships are not treated as separate entities. This means that the owner’s personal assets and debts are legally tied to those of the company, making the owner personally responsible for debts incurred by the business. Additionally, in a sole proprietorship, assets and profits are taxed at the individual level, not as a business.
To recap, three major types of business structures are: (1) limited liability companies (LLCs), (2) corporations, and (3) sole proprietorships. If you’re just getting started on your journey toward business ownership, you might still be unsure about which business structure is right for you. Remember, you don’t need to go full speed ahead before you’re ready. Choosing a business structure is a task that requires special planning and deliberation, and you shouldn’t make a decision without weighing all of your options. Stay tuned for Part II to learn more about the pros and cons of each business structure.