When starting a business the question will arise on how to structure the ownership of the business. There are three types of ownership: sole proprietor, partnership and corporation. Each business structure has distinct advantages and disadvantages compared to the other forms of ownership. Discuss these options with financial, tax and business advisors to determine which form of business ownership best fits your needs.
The sole proprietor ownership is the most basic and common form of business ownership in the market. Sole proprietorships are easy to establish. In most cases there is no need for governmental approval, only application for a tax identification number through the IRS, which is free online. Other advantages to a sole proprietorship are that the owner receives 100 percent of all profits and is the only one person responsible for making decisions for the business. It is also very easy to end a sole proprietorship if the company goes out of business.
The disadvantages of the sole proprietorship include the 100 percent liability for the owner. This includes all the owner's personal assets, such as a car or home. Other disadvantages include the business being crippled if the sole proprietor becomes sick, disabled or dies. A sole proprietor may also experience difficulty obtaining long-term financing from a bank due to the structure of the business.
A partnership is a business owned between two or more individuals who share in the profits from the business. Advantages to partnerships include that they are less costly to set up compared to corporations, the partners are typically motivated and more capital can be raised since there is more than one business owner.
In a partnership, the partners must share any losses the business incurs. Also, at least one partner has unlimited liability, just like in a sole proprietorship – in many cases all partners may have unlimited liability. Buying out a partner can be difficult unless a written agreement is reached. Elimination of one partner automatically dissolves the partnership entirely and any remaining partners must reestablish the agreement. The firm is responsible for any partner's acts.
Corporations are the most complex of the business structure types. Unlike sole proprietors and partnerships, the owners of a corporation have limited liabilities, typically equal to their investment in the company. The corporation continues when a majority owner dies, for example, and the business is easily transferable. A corporation can easily raise capital by selling stock or ownership interests to the public. Corporations typically have an easier time obtaining financing through lenders than any other business type.
Corporations are expensive to establish, requiring state approval, and must abide by certain state and federal laws and charters regarding their business. There is less incentive for managers in a business to succeed if they are not shareholders in the business. Corporations can take advantage of minority shareholders by accepting their money as capital yet operating the business without shareholder approval. Corporation owners face a double income tax when they are corporation employees.