Understanding the Five Types of Business Formations

The beauty of our nation is endless but one of the factors that has set it apart from other economies in the world has been the equal platform and opportunity offered to business owners in all industries. Our laws have evolved over the years to provide regulation and opportunity to businesses seeking many different end goals. In the legal realm, there are five main types of business formations that each have their own limitations and advantages.

Types of Business Formations

Each type of business comes with its own set of advantages and drawbacks. They range from being simple and inexpensive to ones providing certain liability protections for your assets.

Sole Proprietorship

The easiest and cheapest type of business to form, this type of business has one owner and uses either the owner's name or any other name desired. As its name implies, a sole proprietorship gives no distinction between the proprietor and the business itself. This means there are no protections from lawsuits filed against you or from having your personal assets used to cover business debts. Proprietorships involve less government regulation and taxation. Your business' income is filed as a Schedule C, separate from your individual tax return.

Partnerships

Such agreements typically include how profits and losses are to be shared among the partners. In most states, each partner is completely liable for the actions of the other partners. The partners file a yearly partnership information return to the IRS. Limited partnerships are when a general partner assumes sole control and full liability, while limited partners have much less of both.

Limited Liability Company

LLCs provide their owners, or "members," with a degree of liability protection, allowing the LLC to be responsible for debts. LLCs can decide if they wish to be taxed as a partnership or as a corporation, which determines whether they file a partnership tax return or either a C or S corporation tax return.

Corporation

The most formal and expensive of formations, corporations provide a measure of liability protection for the owners. A corporation is formed when a draft of the Articles of Incorporation is filed with the state's department of corporations. Corporations file either as C or S corporations: the former retail corporate-level profits and losses but are taxed on their earnings with shareholders being taxed on their corporate dividends; in the latter, the owners accept all profits and losses. Both types of corporations must file annual tax returns, file annual reports with their incorporating state, conduct meetings yearly, and abide by federal and state record-keeping obligations. Nonprofit corporations receive funding from public and private grants and so are usually not taxed by federal or state governments.

Cooperatives

This is an organization which attempts to operate democratically among its members.