Sole Proprietor, Partnership, or Corporation Which Form Of Business Should You Use?

When starting your new business, you must decide what form of business you should use. The most common forms are sole proprietorship, partnership, or corporation. The kind of business you form will be decided both by legal and tax concerns. Let's go over these three forms of business so you can decide which form your new business will use.

Sole Proprietorship

This is the form most new businesses take. A sole proprietorship means you are running the business as the sole owner and any tax or legal actions of that business go directly to you as if you did everything as an individual. It is the simplest business to start and maintain. This does not mean you cannot benefit tax-wise from running your business; it just means any income or loss from that business will be reported on your personal income tax return.

There is no protection under the law to prevent you from being personally responsible for the actions of your business when operated as a sole proprietorship. The business is essentially "you" the owner. Its liabilities are your personal liabilities and you undertake the risks of the business for all assets owned, whether or not used in the business.

Partnership

This form of business is treated exactly like a sole proprietorship except more than one person is responsible. The partnership may be between two or more people and the percentage of ownership may be anything agreed on by all parties involved.

An important thing you should do is prepare a partnership agreement. This document is signed by all of the partners and describes in detail the rights and responsibilities of each partner and the percentage of ownership. This document should be used to resolve any disagreements between partners, but do not depend on it solely to relieve you of responsibility for a debt or other liability.

Corporation

There are two types of corporations that are commonly used an "S" or a "C" corporation.

An "S" corporation may also choose to be generally exempt from federal income tax. It is treated as any other corporation as far as legal matters are concerned. This means that suits or other actions against your business will be directed at the corporation rather than at the individual. While there is no guarantee of protection under this form of business, it can serve to insulate the individual from the actions and obligations of the company. A domestic company can also avoid double taxation (once to the corporation and again to the shareholders) by choosing to be an "S" corporation. A "C" corporation is the most commonly used form. In forming a corporation, prospective shareholders transfer money, property, or both, for the corporation's capital stock shareholders or owners of the company. It is treated under tax law and for other purposes as an individual separate from the shareholders or owners of the company. Again, this does not provide complete protection from liability, but does create a strong buffer.

Which form your business takes will depend on your personal circumstances. If you have valuable assets you need to protect, you might consider a corporation for your business. If you are just getting started, a sole proprietorship should work just fine. This decision should be made with the advice of a professional who you trust and understands your personal situation.