Advantages of a Corporation: Everything You Need to Know
Corporations are separate legal entities from the shareholders who own them and from the Directors and Officers who manage them.3 min read
Advantages of a Corporation
The main advantages of a corporation relate to the business’s credibility. A corporation is a company that has been incorporated under state laws. Ownership of corporations is vested in shareholders. Corporations are separate legal entities from the shareholders who own them and from the Directors and Officers who manage them.
Because corporations are separate legal entities, shareholders are not individually liable for the debts and actions of the corporation. Generally, if a corporation has debts, creditors cannot seek the personal assets of shareholders.
Corporations have complex filing and annual administrative requirements, and they are the most costly form of business entity to operate.
Advantages of Forming a Corporation
Unless a shareholder has done something fraudulent or is unreasonably commingled with the interests of a corporation, he or she is not individually liable for the debts and liabilities of the corporation. If a corporation goes bankrupt or liquidates, shareholder's personal assets are generally safe. The only thing shareholders have to lose is the value of the shares they hold and any other equity they have in the corporation. This insulation from liability is a huge advantage of the corporate entity.
Corporations can issue stock publicly. For this reason, corporations are the optimal choice of business entity for companies that are growing or trying to attract new investors.
Ownership interests in a corporation are usually extremely liquid. It is easy to buy, sell, and otherwise transfer shares.
Traditional corporations, called C corporations, are separate tax entities according to the IRS and must pay the federal corporate tax rate. This can be a tax benefit, because it shifts the tax burden away from individual shareholders. However, individual shareholders do need to pay additional taxes on their individual income tax returns when they receive dividend payments or other income derived from the corporation. S corporations are a form of corporation that the IRS recognizes as a different type of tax entity. S corporations do not need to pay corporate taxes. Instead, shareholders pay taxes on the dividends they receive from the corporation on their personal income tax returns.
Corporations are perhaps the most credible business entity from the perspective of lenders and potential investors.
Disadvantages of forming a corporation
Forming a corporation is more costly than forming any other business entity. There are also more legal requirements, including restrictions on how the corporation must be managed, than with other business entities. The process of incorporating and then maintaining the corporation can take thousands of dollars per year plus attorney’s fees.
Although corporate tax rates are low, shareholders must pay taxes again when they receive income from the corporation. This means that corporate profits are double-taxed. S corporations avoid double taxation, but there are numerous requirements that must be met for a business to qualify as an S corporation.
There are strict rules for how corporations are to be managed. Boards of Directors are required for most corporations. The Board handles all major decisions of the corporation and establishes the overall business strategy. The Board elects or appoints corporate Officers who handle the day-to-day management of the corporation.
Shareholders have minimal control over the direction of the corporation, aside from being able to elect the Board members. If there are multiple investors and none has a clear majority interest, the corporation’s management can run the business with no significant oversight from its owners.
There are also substantial record-keeping requirements that corporations are subject to, including needing to make public financial disclosures. Corporations need to have annual meetings and follow other rules established by a state’s corporate laws that other business entities, such as LLCs or partnerships, are not subject to.
Public vs Private Company
Private companies are usually owned by a small group of people. Private companies do not offer public stock. Companies that “go public” do so by filing paperwork with the Securities and Exchange Commission (SEC) and offering stock to the public. SEC regulations are strict, so only companies expecting to grow substantially usually choose to go public.
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