Business Organizations “It’s nothing to be afraid of”

What is a business organization? Form of a business Ownership structure Advantages/disadvantages to each one – Taxes – Liability protection – Complexity of operation

Sole Proprietorship Simplest form Unincorporated Owned by one person No separate identity Income and expenses reported on the owner's individual tax return. Owner's assets at risk for business debts

To form a sole proprietorship: Obtain licenses or permits – Assumed name/d.b.a Start doing business

To run a sole proprietorship: All decisions made by owner No meetings No internal agreements

Partnerships

General Partnerships Association of two or more owners Partners contribute cash, property or services Profits and losses included on individual tax returns of the partners Asset protection – General partnerships provide no asset protection

To form a general partnership Make partnership agreement – Agreement creates partnership Begin doing business

To run a general partnership Follow rules of agreement If the agreement does not cover a situation, Uniform Partnership Act (UPA) controls – Most of UPA can be modified by agreement – Provides equality Equal profits Equal control UPA says partnership dissolves if a partner leaves

Limited Liability Partnership Has initials “LLP” at end of name Partners have no risk of personal liability File declaration that partnership will be LLP – Secretary of State – No qualifications—automatic – Does not change tax status

Limited Partnership Has “LP” at end of name One general partner, any number of limited partners – General partner runs business – Limited partners share in profits or losses

Limited partnerships are usually poor choices for new businesses!!! Usually, investment vehicles – High risk operations In some states, must be registered as securities Better ways for limiting role of investors

Joint Ventures Partnership for a limited purpose Each party contributes something Not a continuing business Treated as partnership for that business

Corporations Evil? Or just misunderstood?

Corporations Creatures of state law Separate entities – Fictitious person – Have 1 st Amendment rights Created when shareholders trade cash or property for stock Owners’ assets protected from creditors of corporation Classified by tax treatment

Some states have special rules for certain corporations Farm corporations Family corporations Closely-held corporations

C Corporation Default Corporation liable for federal income tax – Usually, state income tax, too – Lower rate than individuals Shareholders pay tax if they receive profits – Dividends

S Corporation Same limited personal liability as C corporation Earnings taxed at the shareholder level – Corporation pays no tax Restricted to issuing only one class of stock No more than 75 shareholders Must file election with IRS

So an S Corporation is better, right? Advantages No taxation of corporation Disadvantages Limits on ownership Profits taxed, even if not distributed Corporation still must file “informational” return

Most small businesses will elect Subchapter S, if they qualify

Limited Liability Companies

Identified by initials “LLC” Relatively new form of business – Now recognized in all states Limited liability for members No federal income tax – May elect to be treated as a C corporation No restrictions on ownership – Any number of owners – Any management structure

LLCs are similar to corporations Organized, not incorporated Members, not shareholders Governors, not directors Operating agreements, not by-laws Usually, run like corporations – Similar legal rules for internal disputes – No uniform rules

Some states make LLCs more difficult to form Notably, California and New York Must publish notice of LLC – Not for corporations Many LLCs converting to corporations – Not other way around

Cooperatives

Cooperatives are organized to provide services to members Services provided at lowest cost possible – Save on overhead for independent businesses Members buy share – Equal voting rights Distribution of profits – Expenses of co-op – Operating/cash reserve – To members, in proportion to business don

Things to Consider

Limiting Personal Liability Major concern if business poses risks – Injuries – Financial risk Important if owners have non-business assets – Interest in another business – Personal wealth Choices – Corporation, LLC, LLP best options

Ability to Borrow Money Corporations may find it easier to borrow Banks often not as familiar with LLCs – Variable ownership structure Sole proprietorships, partnerships depend on individual credit of owners/partners

Control of the Business Sole proprietor has total control Corporations managed by board of directors – Shareholders vote for directors – By-laws may be adopted Partners or LLC members decide how business is run

Continuity of the Business Sole proprietorships die with owners Death of a partner does not dissolve a partnership, if agreed Corporations may exist forever – Stock can be sold or bequeathed LLCs’ operating agreements may ensure continuity

Dispute Resolution Any business is at risk of disagreements between its owners Businesses have traditionally relied on arbitration Should be set out in agreement or by-laws

“Let us now take up the subject of taxes.”

“That’s where my brother lives.” LLCs not taxed, if chosen – Each member taxed on his/her share of LLC income Partnerships not taxed – Each partner taxed on his/her share of partnership income S Corporations not taxed – Income passes through, taxed to to the shareholders C corporations taxed – Shareholders pay tax on their share