Business Structure and Financial Statements

Introduction 

Accounting is fundamental for the survival and flourishing of any business entity and the nature of the entity is a bearing factor to how accounting is handled. Every accounting regimen uses inter alia accounting statements, which are the documented representation of the financial status of a business entity within a defined period of time (Tricker & Tricker, 2015). Normally, the defined period can be a week, months, a quarter , or a year . The nature of a business entity determines the kinds of financial statements that need to be prepared, the period within which they need to be prepared and what shall be done with the said statements (Blair & Marcum, 2015). In the USA, there are three major classes of business entities, being the sole proprietorship, the partnership, and the corporation, with some having subclasses. As this research paper will reveal, each of the business classes has an elaborate pro et contra from a perspective of taxation. 

The Types of Business Entities 

There are three classes of business entities the first being the sole proprietorship that does not have sub-classes, the partnership that has two main classes and the corporation that also has two main classes. The sole proprietorship is a business entity that is owned by a single person and has not been incorporated. It can be defined as a single entrepreneur, operating under a business name (Blair & Marcum, 2015). From the perspective of taxation, the sole proprietorship has the advantage of having only one level of taxation. The business itself is not taxed thus only the owner has to pay taxes on the income derived from the business. As a disadvantage, the owner is directly liable for the tax burden of the business at all times. The partnership has two main categories of an ordinary partnership and a Limited Liability Partnership (LLP) (Blair & Marcum, 2015). They can both be defined as an unincorporated business owned directly by more than one person. The LLP is unique in that liabilities created by only one partner cannot be visited upon the other partners. With regard to taxes, the partnership itself is not liable to taxes with each partner being liable to pay taxes for their share of the revenue. However, there a manifest disadvantage in that if there is a taxation issue , the partners are directly or in an LLP, the concerned partner is directly liable (Blair & Marcum, 2015). Finally, corporations can also be divided into two primary categories, the first being the limited liability company (LLC) and the second being the full Corporation. Both entities are similar in that they are incorporated as legal entities with an ability to sue and be sued, leading to limited liability for their owners. Their primary difference lies in their respective tax regimens. The LLC has an advantage in that it is not a taxable entity in itself with its shareholders being taxed for the income they derive from the LLC (Blair & Marcum, 2015). The full corporation has the disadvantage in that it has a form of double taxation. The income of the corporation is subject to taxation, so is the income that the respective shareholders derive from the corporation. 

Preferred Business Structure 

Based on the general characteristics of the classes and subclasses of businesses defined able and taking into consideration a variety of entrepreneurial factors, the most suitable business entity for a startup is the Limited Liability Company (LLC). Indicated above, the LLC has the special taxation advantage of not being directly taxed. Whereas the sole proprietorship and the partnership also have the same advantage, it comes with the tradeoff of unlimited liability. The LLC, however, enjoys both a tax advantage and also full limitation of liability making it most appropriate for a startup. In the case the startup succeeds, the owner will enjoy the tax advantages and in the case it fails, there will be protection for the owner from being directly subject to the liabilities of the business. 

Financial Statements of an LLC 

For the accounts of an LLC to be in order, four sets of financial statements need to be put in place. The first is the balance sheet within which the assets, liabilities, and shareholder equity are detailed. The balance sheet needs to be continually updated to reflect the actual status of the company. The LLC balance sheet is unique due to the tax regimen as it reflects the ownership of each respective shareholder (Tricker & Tricker, 2015). It is based on the ownership that the tax liabilities of each shareholder are determined. From a perspective of decision-making, the balance sheet reflects the financial health of a company and can assist in decisions such as taking a loan or making a major acquisition for the LLC such as buying land. The assets of the company must be equal to the sum total of all liabilities and owners’ equity (Tricker & Tricker, 2015). 

The second is the income statement which shows the revenues that have come into the company for a defined period of time. The income statement also differentiates between gross and net income or gross and net losses respectively (Minnis & Sunderland, 2017). A good example of a decision-making process that can be assisted by an income statement is whether or not to increase or decrease the price of products. If for example, revenues are high but profits are low due to low margins, the company can increase unit prices. The third is the cash flow statements that reflect the particulars of the monies coming into and out of the LLC (Tricker & Tricker, 2015). The cash flow statements can assist in making a decision on whether to enhance marketing or even offer incentives such as discounts, more so when the revenues have reduced to the point of unsustainability. Finally, there are the statements of shareholders’ equity which reflects what amount of equity is held by each respective owner within the LLC. The statements of shareholders’ equity can assist in making decisions such as buying out one of the shareholders or allowing a new shareholder to buy into the LLC (Minnis & Sunderland, 2017). 

Conclusion 

The totality of the above reflects the interdependent relationship between the nature of the business entity and the type of accounting to be retained, including financial statements. Accounting in general and particularly the keeping of financial statements is crucial for the success of the business and also fundamental because of taxation issues. The sole proprietorship, partnership, and LLC are only taxed through their respective owners while the full corporation is taxed directly for its revenues. Conversely, the kind of accounts to be retained is determined inter alia by the kind of business entity that the company is in. The decision regarding how a business entity is to be registered ab initio is thus critical to the management of the said business. 

References 

Blair, E. S., & Marcum, T. M. (2015). Heed Our Advice: Exploring How Professionals Guide Small Business Owners in Start-Up Entity Choice. Journal Of Small Business Management , 53 (1), 249-265. doi:10.1111/jsbm.12073 

Tricker, R. B., & Tricker, R. I. (2015).  Corporate governance: Principles, policies, and practices . Cary, North Carolina: Oxford University Press, USA 

Minnis, M., & Sutherland, A. (2017). Financial Statements as Monitoring Mechanisms: Evidence from Small Commercial Loans. Journal Of Accounting Research , 55 (1), 197-233. doi:10.1111/1475-679X.12127