Before starting a business, you must choose a suitable business structure.
There are several types of business entities that would-be entrepreneurs must know about.
It is because the business entity type impacts the financial and legal implications for the business. The amount of taxes you pay, your registration requirement, paperwork all depends on the types of business entities you choose.
So, which entity type is right for your business?
Let’s talk about the different business entities here to know better.
Read below the types of entities in business and find out which one suits you best!
What Are The Different Types Of Legal Entities?
There are different types of legal business entities out there. Here are a few details about those businesses:
The sole proprietorship entity type is the simplest. This type of business entity has a single owner who operates the entire business. The owner or sole proprietor has complete control of the business operations and is the only decision-maker.
A sole proprietorship is not required to register with the state. But you might need licenses and permits depending on the industry of operations.
Examples of sole proprietorship businesses can be freelancers, consultants, professional service providers who work as sole proprietors.
- ~Sole proprietorship entities are easy to start. There is no requirement to register the business with the state.
- ~They have less paperwork and no formalities like meeting agendas, minutes, bylaws, etc.
- ~Tax filing is pretty easy in a sole proprietorship. You need to fill out and attach Schedule C-Profit or Loss from business to your tax returns.
- ~You can reduce most business losses as deductions on your income tax returns in a sole proprietorship.
- ~In a sole proprietorship, the owner is personally liable for the business liabilities and debts. Third-party creditors can sue the owner's assets if they win a lawsuit against your business.
- ~The business is not considered a separate legal entity. It is the same as the owner.
- ~Challenging to raise finance or capital without registering the business entity
A partnership business is similar to a sole proprietorship.
The main difference between a sole proprietorship and a partnership is that there is one owner in a sole proprietorship, and in a partnership, there is more than one.
A partnership business can be a general partnership or a limited partnership. Here’s a description of the two types of partnership entities.
- ~General partnerships – In this type of partnership business. Plus, they share their profits and losses. There’s no need to register a general partnership with the state.
- ~Limited partnerships – Limited partnership is one of the legal entity types that need registration. This entity-type business is slightly different from a general partnership. Here, there are two partners – general partners who operate the venture and limited (or silent) partners who act as investors only.
- ~Higher availability of financial resources
- ~Access to greater resources for business operations, decision-making, and management
- ~Since there is more than one owner in partnership, you can divide liabilities, profit, losses, and responsibilities
- ~The financial burden is less in partnership
- ~There is less documentation in this type of business entity. Plus, there are fewer forms in taxes as well.
- ~In a limited partnership, a partner can leave without dissolving the business partnership.
- ~In a general partnership, each partner is personally liable for the business liabilities or debts
- ~There are states where each partner might be personally liable for the negligent behavior or action of another dispute that might impact business decisions, and growth
- ~General partnerships are not required to be registered. Hence, it might be challenging to raise capital
- ~Forming a limited partnership can be an expensive affair
- ~You must divide business profits
- ~You do not have the freedom to make your decision alone. You must consult the partner.
Limited Liability Company (LLC)
LLCs have sole proprietorship and partnership features. Unlike a sole proprietorship, LLCs have limited liability. But there is less paperwork involved in registering the business. So, in this case, it is more like sole proprietorships.
Income benefits in LLCs are more like partnership businesses. They have operational flexibility. But they also have limited liability exposure. However, this type of business entity seems more like a limited partnership. There are statutory and legal differences to it.
- ~In LLCs, the owners are not personally liable for the business debts and liabilities
- ~LLCs can be taxed as a partnership or a sole proprietorship. Generally, single-member LLCs have the same taxation as sole proprietorships
- ~Less paperwork
- ~You can choose to establish an LLC with a single member or with an unlimited number of members. In single-member LLCs, you get the benefits of a sole proprietorship with limited liability.
- ~An LLC is a type of business entity that is highly flexible. So, it requires a proper operating agreement.
- ~Compared to a sole proprietorship or partnership, establishing an LLC is more expensive. It requires registration with the state.
- ~LLC renewal fees or publication needs can be expensive depending on your state.
- ~It might be difficult to raise financial resources for LLCs, especially single-member LLCs
Among the legal entity types, a corporation is an independent entity that operates under state law. It exists as a separate entity from the company owners or shareholders.
A corporation is a legal entity that provides the best protection from personal liability. However, it is also the most elaborate of business structures. It is quite a complex structure that requires more documentation, operational processes, record-keeping, and reporting.
If you choose the corporation type of entity business, you must file the Articles of Incorporation with the state.
- ~The shareholders or owners in a C Corporation are not personally liable for the business debts and liabilities
- ~The owners of C Corporations pay lower self-employment taxes.
- ~Compared to the other business entities, a C Corporation is eligible for more deductions on taxes
- ~C Corporations can issue and offer stock. Thus, raising funds might be slightly more accessible in this legal entity type than in others.
- ~Since the owners or shareholders and the business are separate legal entities. The business has perpetual life. That means it will continue as a legal entity even if an owner expires. You can pass on the shares to your heirs.
- ~Ownership can be easily transferred through the selling of shares.
- ~The costs of establishing a C Corporation are much higher than sole proprietorships and partnerships
- ~C Corporations face double taxes- on the one hand, the company pays corporate tax returns, on the other hand, shareholders pay taxes on dividends on their returns.
- ~No deduction of business losses on personal tax returns of the owner
- ~C Corporations involves a lot of work when it comes to formalities – conducting shareholders and board meetings, keeping minutes, and establishing bylaws.
An S corporation is a type of closed corporation. This type of business entity preserves limited liability like that in Corporations.
But S Corporations are pass-through entities for tax purposes. That means, when it comes to taxation, S Corporation’s profits and losses pass through the business owner’s personal tax returns. S Corporation does not have corporate-level taxes.
- ~There are no personal liabilities for owners or shareholders
- ~Unlike C Corporation. there is no double taxation in S Corporation. The authorities tax S Corporations more like sole proprietorships and partnerships.
- ~S Corporations, like C Corporations, are difficult to establish. It involves higher costs than sole proprietorship and partnership
- ~With S Corporations, there is more limit on issuing stock than C Corporation
- ~Like in C Corporations, S Corporations also involve formalities like creating bylaws and holding meetings with shareholders and the board.
A Comparison Between Different Types Of Legal Entities
Now that you are well aware of the common types of business entities, we want to give you a quick summary of the three main aspects of a business.
Below, we have compared the different business entities based on ownership, taxes, and liabilities. Have a look and make an informed decision on your business type.
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