Introduction
Of all the decisions a person makes when creating a business, is identifying how it will be taxed by selecting a business structure. This decision affects not only the taxation aspect but also the liability, raising capital and amount of paper work to comply with legal policies within certain jurisdictions. Some of the common business structures include the sole proprietorship, the corporation, S corporation, partnership, limited liability company (LLC), and the limited liability partnership (LLP). Selection of either one of these structures should depict careful and critical thinking to ensure the choice suits the needs of the business. It is important to note that even when an individual selects one of the above, for example, the sole proprietorship, this structure can later be reorganized into a corporation or partnership. However, the owner of the business should inform the IRS authorities and relevant state tax agency.
Business Entity Structure and Justify
One of the most attractive business entity structures for small businesses starting off is an S corporation. This organization of the business presents an array of benefits to the owner in terms of taxation benefits, liability protection and raising capital (Entrepreneur Staff, 2010). The S corporation is seen as a better option to small business owners as opposed to a regular corporation. In this case, the owners enjoy tax benefits as income, credits, losses and deductions are passed through the shareholders who file for them in their individual tax returns. This practice ensures that only one level of federal tax returns avoiding double taxation (Entrepreneur Staff, 2010). Another benefit that this entity enjoys is the accounting method employed which is a cash system that is better off than the accrual method. This recording practice ensures that income is taxed only after being received from customers and the expenses are deductible after being paid (Entrepreneur Staff, 2010). Through the limit of 100 shareholders, the S corporation can effectively attract more investors who bring in a lot of capital to grow the business. Though only individuals, estates, pension plans, and certain trusts can own stock of the company, this group is enough to attract huge capital.
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Sole Proprietorship
The sole proprietorship is the simplest business structure owned by a sole proprietor. This form of organization is the most attractive for individuals who wish to work on their own. The formation of this business is simple as it does not require a formal action (Storey, 2016). The performance of business activity alone automatically realizes this status. However, legalization is achieved through obtaining licenses and permits according to the particular form of business. As the owner and the individual are one and the same, the company income is taxed as your own (Storey, 2016). Some of the advantages of having a sole proprietorship include a simplistic preparation of tax, total control of the company and decisions to make, and the ease and inexpensive means of formation of the company. However, there are numerous disadvantages noted including unlimited personal liability as there is no separation between the owner and the business, raising capital is also difficult as financial institutions are reluctant to lend money to such businesses, and the provision of total control is burdening to the owner (Storey, 2016).
Partnership
Another entity structure is a partnership where at least two or more individuals share ownership of the business. As all members of the partnership share in contribution to the raising of capital, labor, and property so do they share in income, profit and losses incurred (Storey, 2016). This business is formed by registering through the office of the Secretary of one’s State. A business name could be the last names of the partners or a fictitious one that has been filed for. The partnership is registered with the IRS and state and local revenue agencies for taxation. The business files for income, deductions, gains and losses but does not pay tax itself. Instead it passes through the partners with each reporting their share of income or loss (Storey, 2016). Its main advantages include ease of formation, ability to form using complementary skills of partners, and could benefit by offering partnership incentives (Entrepreneur Staff, 2010). The disadvantages include shared liability, shared profits and significant risk of disagreement among the partners that could be difficult to resolve.
Limited Liability Company (LLC)
The LLC is an organization that provides its owners with benefits from a partnership in taxation and a corporation in liability protection. Though there are variations in the formation of the LLC in different states some of the primary requirements include choosing a business name, filing for the article of organization, creating agreements for operation, licenses and permits, and finally announcing it (Storey, 2016). It may be formed by one, two or more individual and in some cases multiple LLCs. This business is not separate from the owners hence it is not taxed but passes through to the personal income of members. Some of the advantages of selecting this business structure include limited liability, less recordkeeping and sharing of profits among the owners (Storey, 2016). However, it does experience a number of disadvantages through limited life as it is dissolved once a member leaves though the remaining owners can choose to file for a new LLC and self-employment taxes are imposed on the members including Medicare and Social Security.
Corporation
This business entity is also known as a C corporation. It serves as an independent legal organization owned by a number of shareholders. This status ensures that the company itself is liable to the debts and actions that it incurs and not the shareholders who own it. A corporation is formed by registering under the laws of the particular state it is located by establishing a business name and register the one’s legal name with the state government. Some of the documents that should be filed include article of incorporation and establish directors while also issuing stock certificates to the initial shareholders (Entrepreneur Staff, 2010). The advantages of this entity include limited liability, can attract capital, attractive for employees, and filing taxes separate from the owners. Its disadvantages include an expensive venture that also consumes a lot of time to start and operate, a lot of paper work primarily due to federal, state and some cases local taxation, and finally double taxation as the company and the owners are taxed separately.
References
Entrepreneur Staff (2010) Business Structure Basics . Entrepreneur, Retrieved from https://www.entrepreneur.com/article/75118
Storey, D. J. (2016). Understanding the Small Business Sector . London, UK: Routledge.
