The three basic legal forms for organizing a business are the sole proprietorship, the partnership and the corporation. When you start a business, it often doesn't make sense to spend time and money on incorporating. You operate the business yourself or with partners. When the business grows and becomes more complicated, you can incorporate. The corporate legal structure is overkill for a small home business but is flexible enough for running businesses with one office and a few employees or multi-national companies.
To start a business in your own name as a sole proprietor, you only have to start operating as a business. In some jurisdictions, you may need a business permit. If more than one person is operating the business, you can form a partnership and sign a partnership agreement specifying each partner's contributions and benefits. Corporations are more complicated. You have to incorporate by registering the business name, the names of directors and your bylaws, and you have to file annual reports.
When you operate your business as a sole proprietor, you and the business are the same legal entity. You own the business by virtue of operating it because you make all the decisions. A partnership works the same way except there is more than one owner. Corporations are legal entities that are separate from the owner. The corporation operates the business and belongs to the owner.
The operators of sole proprietorships and partnerships own the assets of the business. Corporations own the assets of their businesses, so the owner of the corporation owns the assets indirectly. This makes it easier to sell your business when it is a corporation because you can sell it with clearly defined assets. For unincorporated businesses, you have to sell the business and the individual assets that you own.
A major advantage of incorporation is that the owners are not liable for business operations. If the operation of your sole proprietorship or partnership causes damages, you are personally liable and may be sued. Parties injured by a corporation may sue the company but not the owners.
The income from sole proprietorships and partnerships is the personal income of the owners. Partners share the combined income according to their partnership agreement. The income of corporations is separate. Business income belongs to the corporation, which can pay dividends to the owner.
Since the income from sole proprietorships and partnerships is personal income, owners pay taxes at the personal income tax rate on the business revenue minus business expenses. Corporations pay income tax on their own profits at the corporate income tax rate. Owners of corporations only pay tax on business income if the corporation pays dividends.
Sole proprietorships and partnerships continue operations as long as the owners operate the business. There are no provisions for continuing operations when the owners die or retire. Even if heirs or purchasers take over, they will be operating a different business with a new proprietor or partners. Corporations survive the death or retirement of their owners since they are separate legal entities. Heirs or buyers can continue as owners of the same business with the same assets and operations.
