Different Types of Business Structures: Which is Right for Your Business?

Deciding from a list of business structures isn’t the most ideal first step in business, but it is a necessary one. This decision can have significant financial and tax implications for your business, so it’s important to choose wisely. The most common types of business entities are sole proprietorships, partnerships, limited liability companies (LLCs), and corporations. Here’s a brief overview of each one:

Types of Business Structures

Sole Proprietorship

A sole proprietorship is the simplest and most common type of business structures. It is essentially a one-person business, with no distinction between the business and the owner. The owner has complete control over the business and receives all the profits. However, they also bear all the risk; if the business fails, they are personally liable for all debts and losses. 

Advantages of a sole proprietorship:

• Easy and inexpensive to set up
• Complete control over the business
• Fewer compliance requirements

Disadvantages of a sole proprietorship:

• Unlimited liability – the owner is personally liable for all debts and obligations of the business
• Difficult to raise capital

Limited Liability Company (LLC) 

An LLC is a hybrid between a sole proprietorship/partnership and a corporation. Like a sole proprietorship or partnership, an LLC has multiple owners; however, like a corporation, it offers its owners limited liability protection. This means that if the LLC fails, the owners’ personal assets are not at risk; they are only liable for the amount they’ve invested in the company. 

How is a Limited Liability Company (LLC) formed? 

LLCs are typically formed by filing Articles of Organization with the secretary of state.

Advantages of an LLC:

• Limited liability protection – LLC owners are not personally liable for the debts and obligations of the business
• Flexible management structure – LLCs can be managed by the owners or by a group of managers
• Can choose to be taxed as a sole proprietorship, corporation, or a partnership

Disadvantages of an LLC:

• More expensive and time-consuming to set up than a sole proprietorship or partnership
• Subject to certain restrictions some states require special filings for single member LLCs.

Check out What is the Difference Between an LLC and Sole Proprietorship?

General Partnership

A General Partnership is very similar to a sole proprietorship, except that there are two or more owners involved. Partnerships can be either general partnerships or limited partnerships. In a general partnership, all partners share equally in the profits and losses; in a limited partnership, there is at least one partner who is only liable for the amount they’ve invested in the business. 

How is a General Partnership formed? 

General Partnerships are created through an agreement to share profit and losses, while General Partnerships can be formed through oral agreements, best practice is to have an attorney draft a partnership.  

Advantages of a General Partnership:

• Easy and inexpensive to set up
• Shared management and control
• Can raise capital more easily than a sole proprietorship

Disadvantages of a partnership:

• Joint liability – partners are jointly liable for all debts and obligations of the business
• Difficult to dissolve – partnerships can be difficult to dissolve if there is disagreement among the partners

Corporation

A corporation is a separate legal entity from its owners—in other words, it’s its own “person.” This separation offers shareholders limited liability protection; if the corporation fails, shareholders are only liable for the amount they’ve invested in the company. Corporations can be either “C” corporations or “S” corporations; C corporations are taxed as separate entities, while S corporations pass their income through to their shareholders (who then pay taxes on it individually). 

How is a Corporation formed? 

Corporations are typically formed by filing Articles of Incorporation with the secretary of state.

Advantages of a corporation:

• Limited liability protection – shareholders are not personally liable for the debts and obligations of the business
• Can raise capital more easily than a sole proprietorship or partnership
• perpetual existence – corporations can exist indefinitely

Disadvantages of a corporation:

• More expensive and time-consuming to set up than a sole proprietorship or partnership
• Subject to certain restrictions – corporations are subject to certain restrictions, such as the requirement to issue stock

Deciding which type of business entity to establish is an important decision that can have significant financial implications for your business. Be sure to consult with an accountant or business attorney before making your final decision.