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Forms of Business Ownership

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Section 2: The Entrepreneurial Journey Begins

Explain the advantages and disadvantages of a sole proprietorship and a partnership.

Describe the similarities and differences of the C corporation and the S corporation.

Understand the characteristics of the limited liability company.

Explain the process of creating a legal entity for a business.

Understand the advantages and disadvantages of buying an existing business.

Define the steps involved in the right way to buy a business.

Understand how the negotiation process works and identify the factors that affect it.

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There is no one “best” form of ownership.

The best form of ownership depends on an entrepreneur’s particular situation.

Key: Understanding the characteristics of each form of ownership and how well they match an entrepreneur’s business and personal circumstances.

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Tax considerationsLiability exposureStart-up and future capital requirementsControlManagerial abilityBusiness goalsManagement succession plansCost of formation

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Sole ProprietorshipGeneral PartnershipLimited PartnershipCorporationS CorporationLimited Liability Company

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Simple to create

Least costly form to begin

Profit incentive

Total decision making authority

No special legal restrictions

Easy to discontinue

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Unlimited personal liability

The company’s debts are the owner’s debts.

Limited skills and capabilities

Feelings of isolation

Limited access to capital

Lack of continuity of the business

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An association of two or more people who co-own a business for the purpose of making a profit.

Always wise to create a partnership agreement: states in writing the terms under which the partners agree to operate the partnership and that protects each partner’s interests in the business.

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Three key elements of any partnership under RUPA:

1. Common ownership in a business.

2. Agreement on how the business’s profits and losses will be shared.

3. The right to participate in managing the operation of a partnership.

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Easy to establish

Complementary skills of partners

Division of profits

Larger pool of capital

Ability to attract limited partners

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General partners:Take an active role in managing a business.Have unlimited liability for the partnership’s

debts.Every partnership must have at least one

general partner.Limited partners:

Cannot participate in the day-to-day management of a company.

Have limited liability for the partnership’s debts.

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Two types of limited partners:1. Silent partners: Not active in a business but are

generally known to be members of the partnership

2. Dormant partners: Neither active nor generally known to

be associated with the business

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Easy to establishComplementary skills of partnersDivision of profitsLarger pool of capitalAbility to attract limited partnersMinimal government regulationFlexibilityTaxation

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(continued from 6-14)

Unlimited liability of at least one partner

Capital accumulationDifficulty in disposing of partnership

interest without dissolving the partnership

Potential for personality and authority conflicts

Partners bound by law of agency

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All partners in a business are limited partners.

Gives the advantage of limited liability for the debts of the partnership.

Does not pay taxes – income is passed through to the limited partners who pay taxes on their share of the company’s income.

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Corporation: a separate legal entity from its owners.

Types of corporations:Publicly held: a corporation that has a large

number of shareholders and whose stock usually is traded on one of the large stock exchanges.

Closely held: a corporation in which shares are controlled by a relatively small number of people, often family members, relatives, or friends.

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Identify the company as a corporation by using “Inc.” or “Corporation” in the business name.

File all reports and pay all necessary fees required by the state in a timely manner.

Hold annual meetings to elect officers and directors.

Keep minutes of every meeting (formal and informal) of the officers and directors.

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Be sure that the corporation’s board makes all major decisions.

Make it clear that the business is a corporation – officers should sign all documents in the corporation’s name.

Keep corporate assets and the personal assets of the owners separate.

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(continued)

Traditional form of incorporation.Pays taxes at the corporate tax rate and

stockholders also pay taxes on dividends they receive at their individual tax rates.Double taxation: a disadvantage of the

corporate form of ownership in which the corporation’s profits are taxed twice, once at the corporate rate and again at the individual rate on the portion of profits distributed to shareholders as dividends.

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No different from any other corporation from a legal perspective.

An S corporation is taxed like a partnership, passing all of its profits (or losses) through to individual shareholders.

To elect “S” status, all shareholders must consent, and the corporation must file with the IRS within the first 75 days of its tax year.Follow 1/3, 1/3, 1/3 rule of thumb.

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Resembles an S Corporation but is not subject to the same restrictions.

Two documents required: 1. Articles of organization: creates an

LLC by establishing its name and address, method of management, its duration, etc.

2. Operating agreement: establishes for an LLC the provisions governing the way it will conduct business.

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The average cost to create a legal business entity is about $1,000, but it can range from $500 to $5,000.Can use Web sites like MyCorporation and

BizFilings and incorporate for just $100.But, be careful! The cost of filing

incorrectly can be high.States have different regulations on

forming business entities.

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