Types of Business Entities
Most every business starts as a small business. There are four kinds of business entities or formations.
- Sole Proprietorship/Self-Employment
- Partnership
- Corporation
- Limited liability Company (LLC)
Sole Proprietorship
A sole proprietorship is an unincorporated business entity with only one owner who pays personal income tax on profits earned. Sole proprietorships are easy to establish and dismantle, due to a lack of government involvement, making them predominate among small business owners and contractors.
The main benefits of the sole proprietorship are the pass-through tax advantage mentioned before, the ease of creation, and the low fees of creation and maintenance. The disadvantages of a sole proprietorship are the unlimited liability that goes beyond the business to the owner, and the difficulty in getting capital funding, specifically through established channels, such as issuing equity and obtaining bank loans or lines of credit.
Sole proprietors are considered self-employed.
Self-Employment
The self-employed work solely for themselves and/or contract directly with clients. A self-employed person does not work for a specific person or company. A self-employed person creates their own job. Self-employed individuals may not be subject to tax withholding, so they are responsible for paying their own taxes. Self-employment can provide a great deal of job flexibility, but it comes with a greater degree of employment risk and a more volatile income.
The self-employed persons may be involved in a various occupations but they may be highly skilled at a particular kind of work. Physicians, real estate agents, freelancers, traders/investors, lawyers, salespeople, and insurance agents all may be self-employed persons.
Partnerships
A partnership in the general sense is a enterprise undertaken jointly by two or more parties. There are three main categories of partnership: general partnership, limited partnership, and limited liability partnership.
In a general partnership, all partners share legal and financial liability equally. Each partner is personally responsible for the debts the partnership takes on. Profits are also shared equally. The specifics of profit sharing and other guidelines are laid out in the partnership agreement.
Limited liability partnerships (LLPs) are a common structure for professionals, such as accountants, lawyers, and architects. This arrangement limits partners’ personal liability and risk. Some professional firms make a further distinction between equity partners and partners.
A limited partnerships is a hybrid of general partnership and limited liability partnership. At least one partner must be a general partner, with full personal liability for the partnership’s debts. At least one other is a silent partner whose liability is limited to the amount invested. This silent partner generally does not participate in the management or day-to-day operation of the partnership.
Corporations
The third type of business entity is corporation. A corporation is a business entity that is separate and distinct from its owners. Corporations enjoy most of the rights and responsibilities that individuals possess: they can enter contracts, loan and borrow money, sue and be sued, hire employees, own assets, and pay taxes.
A corporation is created when it is incorporated by a group of shareholders who have ownership of the corporation, by their holding of common stock, to pursue a common aim. That aim is generally the profit of the shareholders. A corporation can made up of one shareholder or multiple. The shareholders can profit by receiving dividends and stock appreciation.
A corporation is created when it is incorporated by a single person or group of shareholders who have ownership of the corporation. Corporations are regulated in the state of their jurisdiction.
Limited liability Company
A limited liability company (LLC) is a business entity whereby the owners are not personally liable for the company’s debts or liabilities. Limited liability companies are hybrid entities that combine the characteristics of a corporation with those of a partnership or sole proprietorship.
The owners of LLC’s are called members. Member can be individuals, corporations, other limited liability companies and even foreign entities. Banks and insurance companies cannot form LLCs.
