American Businesses - Legal Structures Of Businesses

For legal and tax purposes, all businesses must be structured as one of several predetermined forms: sole proprietorships, business partnerships, corporations, or limited liability companies (LLC). (Table 5.1 shows the forms into which U.S. businesses fell, according to the 1997 Economic Census.) Each offers both advantages and disadvantages to the business owner.

Sole Proprietorships

In a sole proprietorship one person owns and operates the whole business. Because the business and its owner are considered a single entity under the law, the owner assumes all of the risk but also reaps all of the benefits of the business. If the business fails, the sole proprietor may have to cover the losses from his or her personal assets, but if the business succeeds, he or she keeps all of the profits. Sole proprietors can pay lower taxes than those who head corporations or other forms of small businesses. Still, because almost all credit decisions are based on the owner's assets and credit history, it is often difficult for businesses set up under this structure to borrow enough money to expand as rapidly as other kinds of businesses.

Business Partnerships

A business partnership has two or more co-owners. As in a sole proprietorship, members of a business partnership are legally recognized as one and the same with their company, meaning that they are personally responsible for the company's debts and other liabilities. Most partnerships start with the partners signing agreements that specify their duties in the business. Many states allow for "silent partners," who invest start-up capital but have little role in the company's day-to-day affairs. (Start-up

TABLE 5.1

Employer and nonemployer firms by legal form of organization, 1997
	All		Employers			Nonemployers
Legal form of organization	Firms (thousands)	Receipts ($ billion)	Firms (thousands)	Receipts ($ billion)	Employees (thousands)	Firms (thousands)	Receipts ($ billion)
SOURCE: "Table 4. Employer and Nonemployer Firms by Legal Form of Organization, 1997," in Statistics about Business Size (including Small Business), U.S. Census Bureau, 1997, http://www.census.gov/epcd/www/smallbus.html#Legal (accessed January 4, 2005)
All types of firm	20,822	18,553	5,295	17,908	103,360	15,527	645
C corporations	2,390	13,892	1,870	13,801	70,982	520	91
Subchapter S corporations	1,979	2,977	1,517	2,920	21,446	462	57
Partnerships	1,226	622	341	523	3,918	885	98
Individual proprietorships	15,123	872	1,467	475	5,699	13,655	396
Other, including cooperatives, estates, receiverships, and businesses classified as unknown legal forms of organization.	103	190	99	188	1,315	3	2

capital is the money used to start a new business.) A significant drawback of this form of business is that each of the partners is responsible for every other partner's actions. If a partner loses or steals money from the company, the other partners will have a legal responsibility to pay that debt. There are three kinds of business partnerships: A general partnership is the simplest form, in which profits and liability are equally divided among partners or divided according to the terms of the signed agreement; a limited partnership allows partners to have limited liability for the company but also limited decision-making rights; and a joint venture, while similar legally to a general partnership, is used only for single projects or short periods of time.

Corporations

A corporation is an entity recognized by the state and federal governments as entirely separate from its owner or owners. As such, a corporation can be taxed and sued, and it can enter into contractual agreements. Because it is an individual legal entity, a corporation allows its owners to have less personal liability for debts and lawsuits than a sole proprietorship or partnership. Owners of corporations are considered shareholders, and they may elect a board of directors to oversee management of the company. While corporations are commonly thought of as large companies with hundreds or thousands of employees and publicly traded stock, this is not always the case. Owners of small businesses frequently incorporate as their business expands. All corporate owners must file "articles of incorporation" with their state governments. For smaller businesses these forms are simple to fill out and file. One option is to file with the Internal Revenue Service (IRS) as a subchapter S corporation. In an S corporation the owner must pay him- or herself wages like any other employee, but the structure also offers substantial tax flexibility. All corporations that are publicly traded have C corporation status. This means they have nearly unrestricted ownership and they are subject to corporate taxes, paying at both the corporate and stockholder levels.

Limited Liability Company

The limited liability company (LLC) is a combination of a corporation and a partnership in which the owners (or shareholders) have less personal liability for the company's debts and legal issues and also have the benefit of simpler tax filings and more control over management issues.