Small Business Series: Chapter Two, Choosing a Legal Structure

Now that you have decided you want to start your own business, it’s time to decide which legal structure best suits your needs. The structure you choose can have different tax and liability implications, so it is important to choose carefully. While you should always seek professional tax and legal advice before making any final decision, below is a simple comparison of the most common legal structures for small businesses.

Sole Proprietorship
Pros
– Easy to form
– Complete control under 1 owner
– Automatic designation if you are operating without obtaining licenses or permits

Cons
– Business liabilities are not separated from personal assets
– Not ideal for moderate or high-risk businesses
– Difficult to find banks/investors willing to lend money

Partnership
Pros
– Similar to sole proprietorship, but allows two or more owners
– Owners can structure the partnership to meet their needs through a partnership agreement
– Limited partnerships can protect the partners from the actions of the other partners

Cons
– One partner may have full liability for the company, but also full control
– Other partners may only be limitedly liable, but also only have limited control
– If not formed correctly, partners can become liable for the actions of the other partners

Limited Liability Company (LLC)
Pros
– Combines benefits of Corporations and partnerships
– Personal assets are protected
– Profits passed easily to personal income w/o corporation tax liability

Cons
– Term of the LLC may be limited by state law
– More difficult to form
– More complicated tax filing

Corporation
Pros
– Can have multiple shareholders
– Full protection of personal assets
– Different types to suit your business model
– Easy to raise business capital by selling stocks or shares

Cons
– May be subject to higher taxes
– Strict formation requirements, including bylaws and mandatory annual meetings
– May be subject to double taxation

Non-Profit/Cooperatives
Pros
– Organized to provide charity or other public benefits
– Eligible for grants and donations
– Provides tax exemptions
– Protects personal assets from liability

Cons
– More complicated to form
– Strict government oversight and auditing
– Special regulations cover how income may be used