Choosing your legal structure

Your choice of whether your business should be aThe unlimited liability that applies to sole proprietorships
proprietorship, a partnership or a corporation can beis even worse for partnerships. As a partner, you are
important for many reasons. Each has advantagesresponsible not only for your own business debts, but
and disadvantages depending on the type of activityfor those of your partners as well. Should they incur
you are engaged in.debts or legal judgments against the business, you
Part of keeping your home-based business legalcould be held legally responsible for them. Disputes
involves choosing the legal structure for it: soleamong partners can be a problem, too.
proprietorship, partnership, or corporation. Aside fromUnless you and your partners see eye to eye on how
being necessary for government reporting and taxthe business should be run and what it should
purposes, this can enable your business to operateaccomplish, you are in for trouble.
more efficiently.However, a partnership is generally the least advisable
Since each legal form has its own uniqueway to go. It requires filing a separate partnership tax
characteristics, your goal is to choose the form thatreturn, does not carry liability protection for general
works best for you.partners, and can lead into legal and personal disputes.
Sole Proprietorship A business owned by one person,A corporate form of ownership is generally recognized
who is entitled to all of its profits and responsible for allas preferable over partnership, because it can serve
of its debts, is considered a sole proprietorship. Thisthe same purpose while offering a cleaner and better
legal form is the simplest, providing maximum controlprotected structure for the owners.
and minimum government interference. Currently usedCorporation A corporation differs from the other legal
by more than 75 percent of all businesses, it is oftenforms of business in that the law regards it as an
the suggested way for a new business that does notartificial being possessing the same rights and
carry great personal liability threats. The owner simplyresponsibilities as a person. This means that, unlike sole
needs to secure the necessary licenses, taxproprietorships or partnerships, it has an existence
identification numbers, and certifications in his or herseparate from its owners. It has all the legal rights of
name, and you are now in business! The mainan individual in regards to conducting commercial
advantages that differentiate the sole proprietorshipactivity -- it can sue, be sued, own property, sell
from the other legal forms are (1) the ease with whichproperty, and sell the rights of ownership in the form of
it can be started, (2) the owner's freedom to makeexchanging stock for money.
decisions, and (3) the distribution of profits (ownerAs a result, the corporation offers some unique
takes all).advantages. These include (1) limited liability: owners are
Still, the sole proprietorship is not withoutnot personally responsible for the debts of the
disadvantages, the most serious of which is itsbusiness, (2) the ability to raise capital by selling shares
unlimited liability. As a sole proprietor, you areof stock, and (3) easy transfer of ownership from one
responsible for all business debts. Should these exceedindividual to another. Plus, unlike the sole proprietorship
the assets of your business, your creditors can claimand partnership, the corporation has "unlimited life" and
your personal assets--home, automobile, savingsthus the potential to outlive its original owners.
account, and investments. Sole proprietorships alsoThe main disadvantage of the corporate form can be
tend to have more difficulty obtaining capital andsummed up in two words: taxation and complexity. In
holding on to key employees. This stems from the factwhat amounts to double taxation, you must pay taxes
that sole proprietorships generally have feweron both the income the corporation earns and the
resources and offer less opportunity for jobincome you earn as an individual.
advancement. Thus, anyone who chooses the soleAlong with this, corporations are required to pay an
proprietorship should be prepared to be a generalist,annual tax on all outstanding shares of stock. Given its
performing a variety of functions, from accounting tocomplexity, a corporation is both more difficult and
advertising.more expensive to start than are the sole
Partnership A business owned by two or more people,proprietorship and the partnership. In order to form a
who agree to share in its profits, is considered acorporation, you must be granted a charter by the
partnership. Like the sole proprietorship, it is easy tostate in which your home-based business is located.
start and the red tape involved is usually minimal.For a small business the cost of incorporating usually
The tax structure is the same as proprietorship exceptranges from $500 to $1,500. This includes the costs for
in the profits and losses of the partnership are dividedlegal assistance in drawing up your charter, state
by an agreed percentage by the partners.incorporation fees, and the purchase of record books
The main advantages of the partnership form are thatand stock certificates. And, since corporations are
the business can (1) draw on the skills and abilities ofsubject to closer regulation by the government, the
each partner, (2) offer employees the opportunity toowners must bear the ongoing cost of preparing and
become partners, and (3) utilize the partners' combinedfiling state and federal reports.
financial resources.S Corporation If you are interested in forming a
However, for your own protection, it is advisable tocorporation, but hesitate to do so because of the
have a written partnership agreement that will spell outdouble taxation, there is a way to avoid it. You can do
the specifics of the agreement. This should state (1)this by making your business an S corporation.
each partner's rights and responsibilities, (2) the amountThe Internal Revenue Service permits this type of
of capital each partner is investing in the business, (3)corporation to be taxed as a partnership rather than a
the distribution of profits, (4) what happens if a partnercorporation.
joins or leaves the business, and (5) how the assetsHowever, in order to qualify for S status, your business
are to be divided if the business is discontinued. Thingsmust meet the specific requirements set forth by the
have a way of changing and people forgetting overIRS. These include limits on (1) the number and type of
time, so it is essential that there be a signed documentshareholders in the business, (2) the stock that is
that all abide by.issued, (3) the corporation's sources of revenues.
Partnerships also have their share of disadvantages.