Running a business requires selecting the proper legal structure. Understanding your alternatives is essential whether your organization is just getting started or expanding. The business structure you choose will impact a variety of factors. Therefore, you should pick a business structure that offers you the ideal legal benefits and safeguards ratio.
In this regard, you might also be wondering: do all businesses need a business license? Click here to learn more about the legal requirements of starting a small business. As for today, we’ll focus on a single step of the process – choosing the most suitable legal structure for your business.
What Is A Business Legal Structure?
Business structure is the term used to describe an organization’s recognized legal structure in a particular jurisdiction. The legal form of an organization has a significant impact on the activities it may engage in, including the ability to raise money, take on financial commitments for the company, and determine how much tax it must pay to government agencies.
Company owners should first take into account their demands and goals as well as be familiar with the characteristics of each business structure before deciding on the kind of legal structure. The four main types of legal business structures are corporations, partnerships, limited liability companies, and sole proprietorships.
Why Is A Business Legal Structure Important?
One of the most important choices you can make is choosing the appropriate business structure from the beginning.
Here are some things to think about:
- Taxes – There are different tax rates for company and personal income, and your chosen structure might significantly influence your tax liability.
- Liability – Limited liability corporation (LLC) agreements can protect your personal assets in the event of a lawsuit. However, the federal government does not allow LLC formations; instead, states are the only jurisdictions that do. Liability protection for LLCs is provided by the C corporation corporate structure.
- Paperwork – There are specific forms for each legal structure. For instance, you would need to submit articles of incorporation and ongoing reports for a corporate structure, while the remaining forms impose fewer formalities.
- Hierarchy – A board of directors is essential for corporations. Some states mandate that this board meet a specific number of times each year. Corporate hierarchies also prevent a business from going out of business if a founder dies, an owner transfers shares, or the company owner decides to leave.
- Registration – In order to register your firm in your state, you must also have a valid business structure. Without a business structure, you cannot apply for an employment identification number (EIN) or all of your required licenses and permissions.
- Fundraising – Certain methods of money raised may be prohibited by your organizational structure.
Although you can modify your business structure in the future, your first choice is critical because of the potential repercussions; altering your company’s structure can be a disjointed, perplexing procedure that might have an impact on taxes and result in the accidental closure of your company.
Types of Business Structures
Here are four main types of business structures explained.
#1: Sole Proprietorship
The simplest type of company entity is a sole proprietorship, which consists of only one person handling day-to-day activities. Additionally, the owner’s tax return includes the business’s earnings and outlays from a tax standpoint.
Since the business is not a different legal entity from its owner, it is not necessary for it to submit separate income tax returns.
#2: Partnership
A partnership is merely a business that is held by two or more persons, similar to a sole proprietorship. You are not required to file any paperwork or pay any fees to establish a partnership.
Like in a sole proprietorship, each partner is individually accountable for any debts, claims, or other obligations that the firm may have, and each partner must declare their portion of the business earnings as income on their personal tax returns.
#3: Corporation
A company structure known as a corporation provides the entity with a distinct legal identity from its owners. The owners must adhere to additional rules and regulations, and it is difficult and costly to set up. To supervise the registration procedure and guarantee that the business conforms with the state statutes where it is registered, the majority of companies employ attorneys.
#4: Limited Liability Company (LLC)
The finest of both worlds are combined in the hybrid business form known as an LLC, which has traits of both corporations and partnerships. It lessens tax and business obligations while protecting firm owners from personal liability. Each business owner is obligated to report a portion of the business’s gains, and losses on their individual tax returns since the business’s gains and losses are transferred through to the owners.
The Bottom Line – What Legal Structure Is Best for Your Business?
A crucial stage in the development of your company is picking a legal business structure. Everything is impacted, including one’s capacity to draw in investors, one’s personal liabilities, and paperwork for the government.
To choose the appropriate legal structures, business owners should balance their own personal circumstances, long-term business goals, and expenses. Once you’ve made that crucial choice, you can return to concentrating on what matters most: managing your day-to-day operations to generate the maximum possible revenue for your company.
