How to Choose the Right Business Structure
Figuring out how to choose the right business structure is a vital part of forming a company.4 min read
Figuring out how to choose the right business structure is a vital part of forming a company. Different business types need different structures in order to function well. You'll want to base your decision on your long-term goals for your business and how to plan to operate on a daily basis. Certain business types require specific structures, so be sure to use the information below to figure out your best fit.
The most common types of business structures are:
- Sole proprietorship.
- Limited liability company.
- S corporation.
- C corporation.
Sole proprietorships require little to no paperwork to form and are ideal for freelancers, independent contractors, and others who plan to only work for themselves. The business will likely be registered under the legal name of the business owner, unless they choose to file a DBA (doing business as) with the state.
The IRS (Internal Revenue Service) uses the SSN (social security number) of the sole proprietorship's owner for taxation documents. If this is not ideal, the owner can apply for an EIN (employer identification number) or TIN (taxpayer identification number) instead.
Limited Liability Company (LLC)
The limited liability company structure is one of the most popular structures in the business world today. It offers liability protection to its owners, called members, and it is fairly easy to start. Business owners with assets to protect might find that the LLC structure is ideal for them.
In order to form an LLC, you'll need to:
- Pick a business name.
- File articles of organization.
- Form an operating agreement.
Subchapter S Corporation
There are two main types of corporations, S corps and C corps. The subchapter S corporation (S corp) gets its name from its IRS designation. This type of business structure offers liability protection, ideal for small businesses. Owners of an S corp experience pass-through taxation as the profits and losses of the corporation pass through the business to their personal income.
A few of the restrictions for S corps include:
- S corps cannot have more than 100 shareholders.
- All shareholders in an S corp must be residents or citizens of the United States.
Usually, when people talk about corporations, they are thinking of the C corporation (C corp) structure. This structure offers liability protection as the business a separate entity in the eyes of the legal system and the IRS. C corps are not pass-through entities. C corps are not pass-through entities, however, so they are subject to double taxation. This may sound like a downside, but this aspect makes the C corp structure ideal for large businesses with many shareholders.
C corps are perfect for business owners who want to sell shares of stock, grow internationally, and maintain a high level of organization. There are more requirements for corporate structure than for other business structures. For instance, C corps must have directors, officers, and must hold annual shareholder meetings, among other requirements.
Partnerships are similar to sole proprietorships, as they are both pass-through entities, with a few differing aspects. When two or more business owners what to start a company together, they may find that the partnership structure is a good fit. They can choose from the following types of partnerships:
- General partnership: This type is good for partners who want equal involvement in the business. This means that the profits, responsibilities, and liabilities of the business will be equally split between the partners. A well-written partnership agreement will spell out any intentional differences when dividing duties, profits, or otherwise.
- Limited partnership: If one of the two partners what to simply play the role of the investor without responsibilities or liabilities, the founders might need to go with the limited partnership option. This type offers liability protection to the investor-only owner of the business.
- Joint venture: Joint ventures are ideal for short-term projects. They function much like a general partnership, but they have a clear end point, usually, once a specific project is completed.
Nonprofits are very different from other business structures, mainly due to their not-for-profit characteristic. If you're looking to start an organization in order to support a certain social purpose, mission, or cause, but not to create revenue, then a nonprofit structure might be perfect for you.
If your business files as a nonprofit, it must prove that it's not intending to turn a profit. The IRS allows for tax exemption for nonprofits, so they must make sure that this perk isn't being abused.
If you need help with understanding how to choose the right business structure, you can post your legal need on UpCounsel's marketplace. UpCounsel accepts only the top 5 percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.