Business Entities: A Quick Guide
Business entities come in so many types that business owners can easily get confused. Here’s a quick guide that will hopefully shed a little light on business entities for you.
"C" Corporation: A corporation whose shares are held by shareholders (the owners). The entity stands apart from the shareholders for legal and tax purposes. The shares of the corporation may be “taken public” and traded on stock markets. Google is an example of a publicly traded “C” corporation. Shareholders in most circumstances are not responsible for the debts of the corporation absent certain exceptions (e.g. taxes, fraud, government issued fines and penalties, etc.)
"S" Corporation: Similar to a “C” corporation, this entity provides solid asset protection for shareholders from business liabilities and debts behaving very much like the “C” corporation above. The primary difference is one of taxation. The “S” corporation can be taxed as a pass through entity and often the number of shareholders are limited. This is a very popular choice of entity for small business owners.
Foreign Corporation: A corporation doing business in a jurisdiction beyond where it was formed. Microsoft, for instance, is a Washington corporation organized under the general principles outlined above. When Microsoft does business in New York, it is considered by the law in New York as a “foreign corporation authorized to do business in New York.” To acquire this designation certain documents must be drafted and filed with the state in which the company wants to do business along with certain fees. Often this designation will require renewal on an annual basis.
General Partnership: A business effort involving two or more people, known as partners. Each partner is liable for all partnership debts and obligations regardless of participation and contribution amounts. Put another way, a general partnership provides very little personal protection against lawsuits.
Holding Company: Part of a double incorporation strategy. The sole purpose of a holding company is to own or control other companies or a particular asset like a piece of property. These other companies or assets are typically exposed to significant liability threats. Layering ownership among companies also has the added benefit for some to shield personal liability by further distancing themselves as individual owners from the exposed company or asset. But remember there are certain limited circumstances that will allow others to “pierce the corporate veil” and go after the ultimate individual owner personally.
Joint Venture: A cooperative business effort between two or more parties which are often two distinct entities. It is usually limited to a single business purpose and involves a sharing of responsibilities and revenues. For instance, a database programmer and web site designer might enter a joint venture to provide e-commerce solutions to businesses.
The “LLC” - Limited Liability Company: A creation of state law in which one or more individuals form an entity providing the liability protection of a corporation, but the tax benefits of an “S” corporation or partnership. The “LLC” is rapidly become the more popular form of entity for small business owners. There is an additional requirement for the establishment of this entity as opposed to the others; most states have a publishing requirement that will require the owner of the “LLC” to file a public notice in the newspapers for a period of time declaring the creation of the LLC. These publication fees can run a few hundred dollars depending on where you are forming your “LLC”.
Limited Partnership: A partnership in which the business is managed by a general partner with limited partners supplying capital investment. The limited partners are prohibited from actively participating in the management of the partnership. In exchange, the limited partners liability is limited to the amount of their investment. In pursuing this business entity, the general partner is almost always a corporation (“C” or “S”) or an LLC to shield the general partner from personal liability except for the limited circumstances discussed earlier.
Partnership by Estoppel: A partnership created by operation of law when two or more people pursue a business goal and hold themselves out to the public as such. This business entity is prevalent as it is the automatic designation for two people doing business who fail to take any steps to designate a business entity. In this entity, each partner is completely exposed to liability risks which is why it is important to plan your business venture and pick a business entity form at the very beginning before you begin your business.
Sole Proprietorship: A business owned and controlled by one person. The designation provides no protection from business liabilities. It is taxed on the person’s personal tax returns. This is not a recommended form because there is legal exposure personally and may not be the best tax treatment affordable to you under the circumstances.
Each of the above entities provides certain advantages to a business owner. If you consider the particulars of your efforts, you should be able to get an idea of which one is best for you. Then, when you’re ready, contact a knowledgeable attorney who can help you achieve your goals. You will now be better informed when you meet your attorney helping you and the lawyer choose the best entity for your business.