FAQ: Which Business Entity Should I Choose?

Orange City Iowa Estate Planning

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Starting your own business can be a daunting prospect, filled with decisions ranging from whether you should have a storefront to how much you should pay employees. You'll need insurance of many colors, an attractive logo. You're hoping for a big splash and wild success. But you may have forgotten one very important choice: which business entity will you use? [Read More]

Starting your own business can be a daunting prospect, filled with decisions ranging from whether you should have a storefront to how much you should pay employees. You’ll need insurance of many colors. You want an attractive logo. You’re hoping for a big splash and wild success. But you may have forgotten one very important choice: which business entity will you use?

As we talked about yesterday, a Northwest Iowa business lawyer will have a variety of areas of expertise. At the outset, among the most important advice you can get is how to structure your business. You have four main options:types of business entity

  1. Sole Proprietorship;
  2. Partnership;
  3. Corporation;
  4. Limited Liability Company;

To decide which business entity to use, you need to know more about them, so read on.

Sole Proprietorship

The sole proprietorship (we’ll call it an ‘SP’ to save me from getting carpal tunnel) is probably the most common business form. If you sell lemonade on a street corner by yourself, you’re sole proprietor. The reason they’re so common is because they’re easy to set up: simply start doing business for profit and you’ve created an SP. There’s no filing requirement like there is for an LLC or corporation.

Partnership

You create a partnership much like an SP, but with one important difference: a partnership is two or more people doing business together for profit. Just like an SP, you don’t have to file anything or sign anything. Just agree with at least one other person to join forces to make a profit and you’ve got a partnership. In a general partnership, the partners share the profits (and losses) and have an equal vote in both day-to-day and long-term/major decision-making.

Adding a second person to your business automatically adds complexity. On top of the additional personality to manage, your partnership could be structured as a limited partnership (LP), a limited liability partnership (LLP), or a limited liability limited partnership (LLLP). The nuances of each are based on your agreement with your partner(s), and you should talk to a lawyer before choosing one of these partnership forms.

Corporation

To create a corporation, you must first file properly-prepared Articles of Incorporation with the Secretary of State. Once filed, your corporation is officially created. But creating your corporation is just the first step.

A corporation is probably the most complicated business form from a structure perspective. Corporations issue shares, so the owners of the shares are the owners of the corporation. But the shareholders are only involved in certain decisions. Specifically, they elect the board of directors and vote on other major decisions like whether to dissolve the corporation.

The board of directors is elected by the shareholders to manage the corporation’s general business matters. The board of directors elects officers to manage the day-to-day operations of the corporation and makes all decisions regarding the exercise of corporate powers.

Speaking of corporate powers, a corporation has one other major governing document: the bylaws. The bylaws are signed by the board of directors and lay out any special powers of the corporation and board of directors. The bylaws also identify the rules for voting by the shareholders, voting by the board of directors, and identify which tasks the shareholders and board of directors can delegate.

While all of this complexity (and believe me, there’s a lot more than what’s mentioned here) seems burdensome, there are benefits to a corporate structure. Specifically, as long as the corporation’s paperwork is kept current, the shareholders cannot be sued for things the corporation does. The corporation is a separate person from each of the owners. This is different from a partnership or sole proprietorship because both of those entities are treated as an extension of the individual owners. As an extension of this, a corporation pays a separate tax on its income. If the corporation then distributes proceeds to the shareholders, the shareholders pay their own income tax on their distribution.

Limited Liability Company

A limited liability company (we’ll shorten this one also: ‘LLC’) is a blend of the liability protection you get from a corporation and the ease of use and simple tax structure of a partnership. The owners of an LLC are called the members. Like in a corporation, the members are not personally liable for the actions of the LLC. But, like in a partnership, the members of a typical LLC make both day-to-day and major decisions for the operation of the LLC. An LLC is also taxed as an extension of the individual members and can be structured in a variety of ways like a partnership.

How do I get started after choosing my business entity

That’s a lot of information packed into just a few short paragraphs. What’s worse is that it only scratches the surface. Each of these entities has specific applications and the one you end up using could depend on just the type of service or product you plan to sell or it could depend on a combination of that and 15 other factors like tax treatment and number of employees.

The choice of entity could end up saving you hundreds of dollars. Or hundreds of thousands. Or millions.

Your chosen entity can be a tool for transitioning the business you build to the people you want to receive it, whether a partner or a family member.

It’s never too late to get started, even if your business has been up and running for years. Don’t leave yourself exposed to liability. Call our office today to set up a Mutual Interview and let us help you plan the future of your business.

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