What Are the Different Business Structures?
Over five million new businesses were started in 2022 in America alone. The first step when starting a new business is to go through the different business structures you can use. This is a crucial decision as it affects various components of your business like taxes and liability.
There are five common options when it comes to an organizational structure, so you need to learn about them all before you make a decision. A business structure is the legal representation of a company. It clearly defines who owns the company and how it distributes its profits.
Before you register your business you need to have a business structure in place. It can also be time-consuming and costly to change structures later on.
Keep reading to find out more about the different business structures out there.
Sole Proprietorship
When you think of buying a business, a sole proprietorship is most likely what you have in mind. This structure means one person owns the business and is in charge of its operations. It is a common business structure and one of the easiest to set up.
If you’re planning to work alone or do the bulk of the work, this might be the right business type for you. Just keep in mind that you’re solely responsible for all the business’s financial obligations like debt. This is why this structure works well for home-based, low-risk businesses, or retail businesses.
A sole proprietorship also allows you to test out your business idea before creating a formal company.
A Partnership
This business structure refers to two or more people owning and operating a business together. A partnership is the simplest multi-owner business structure.
Similar to a sole proprietorship, a partnership allows the owners to test their idea out and flesh it out further before they establish a more formal company.
A partnership can be classified as general or limited. A general partnership means all partners have equal roles and responsibilities when it comes to the company.
A limited partnership is a bit more complicated. In this type of partnership, some of the partners will still be general partners, but the limited partners refer to investors. Limited partners have limited control and liability when it comes to the company.
A Corporation
In the previous business structures, the companies and the owners are one. When it comes to a corporation, the company is an independent entity that exists separate from the owner.
This business structure is more complex than the previous two, and also more expensive. A corporation has to comply with a lot of rules and regulations that the previous two don’t have to worry about.
A corporation isn’t meant for a start-up business. This business structure, also known as a C corp, is geared toward established medium- or high-risk businesses. General people opt for corporations when they need to raise funds, plan to sell the company or plan to take the company public.
Corporations come in various shapes and sizes. Common corporation types include:
- Benefit corporations
- Nonprofit corporations
- Closed corporations
- Open corporations
Benefit corporations, or B corps, are a good choice for for-profit businesses that strive to make an environmental or societal impact. Nonprofit corporations are companies that don’t focus on making money and are tax-exempt due to the nature of their work.
Closed corporations are privately held companies that don’t have many shareholders and that have limited liability protection. Open corporations allow the public to trade sticks,
S Corporation
While this might seem like it should fall under the corporation section, S corporations are business structures that stand alone. They have the liability protection of a corporation, but they have added tax benefits, making S corps a great option for smaller businesses.
These businesses need to meet specific IRS criteria in order to classify as an S corporation. S corps can’t have more than 100 shareholders and these shareholders need to be citizens of the United States.
An S corp allows shareholders to sell their shares without tax consequences. There also isn’t a disruption in the business if a shareholder leaves the corporation.
Limited Liability Company
A limited liability company combines some aspects of a partnership with those of a corporation. To create a limited liability company you need to file paperwork with the secretary of state for the state you plan to open your business in.
This structure is well suited to medium- or high-risk businesses where you would want to protect your personal assets. This means if the company doesn’t succeed and goes bankrupt, your personal assets will be protected. So you might lose the money you initially invested in the business, but you won’t be held responsible for the debt the company owes.
This business structure also has some tax benefits. Instead of paying corporate taxes, the income and expenses go to the owners’ personal tax returns. So the owner will pay income tax on the profits.
Different Business Structures Explained
Buying a business can be a complicated procedure. You need to understand the different business structures before you even spend a dime. Each type of business ownership has its own pros and cons, so you need to do your research to ensure you pick one that suits your needs.
If you’re ready to take the next step in becoming a business owner, contact us. We’re happy to answer any questions you might have about pricing and valuation issues, exit strategies, business financing, or any other subjects related to the purchase or sale of a business.
