What Are the Different Types of Business Entities?

If you are considering starting a business, one of the most important decisions that you will have to make is the legal structure of your business, as a business lawyer Peoria IL trusts might explain. The type of business entity that you create will affect everything from the amount of taxes that you will pay to the amount of personal liability that you could face in the event of a lawsuit or bankruptcy. Although the process of establishing a business entity is controlled by state law, the following provides an overview of the most common business structures.

Sole Proprietorship:

A sole proprietorship is typically easy to establish and can apply to any type of organization ranging from a small home-based business to a large company with multiple employees.

  • The individual owner remains completely in charge of the business.
  • As a general rule, a sole proprietor is personally liable for the debts and financial obligations of the business.
  • The owner is also responsible for paying income taxes on any profits as well as self-employment taxes.

Partnership:

A partnership creates a legal relationship between two or more individuals who wish to establish a business.

  • Each partner contributes to the business financially or through their time, labor, or property in exchange for sharing in the company’s profits and losses.
  • The partnership itself is not taxed.
  • Each partner is responsible for paying income and self-employment taxes on their share of the partnership earnings.

Corporation:

A corporation is established under state law and is considered a separate legal entity that can be taxed and held legally responsible for its actions.

  • Corporations must meet more regulatory and reporting requirements than sole proprietorships and partnerships.
  • As a general rule, corporations are taxed on both the federal and state level.
  • Shareholders must pay personal taxes on any of the corporation’s dividends that they receive.

Subchapter S Corporation:

Like a standard corporation, a Subchapter S corporation is created under state law and is considered a separate legal entity from its officers and shareholders. The primary difference between S corporations and standard corporations is how they are taxed:

  • An S corporation is normally not taxed at the corporate level.
  • The individual shareholders pay taxes on their portion of the corporate earnings.

An S corporation essentially combines the personal liability protection of a corporation with the tax benefits of a partnership.

Limited Liability Company:

A limited liability company typically provides limited personal liability for the debts and financial obligations of the business while offering pass-through taxation and management flexibility similar to a partnership.

  • The majority of states allow individuals, corporations, and even foreign entities to be owners of a limited liability company
  • Insurance companies and banks are typically prohibited from establishing a limited liability company.

Which Type of Business Is Best?

No one type of business entity is better than another. Each business structure offers benefits and drawbacks. Before deciding on a particular business structure, it is important to consult legal and tax experts to determine which type of business is most appropriate and advantageous based on your specific circumstances.

Smith and Weer P.C.Thanks to our friends or contributors from Smith & Weer, P.C. for their insight into business entities.