Common Forms of Business Ownership that Reduce Personal Liability
UPDATED: June 19, 2018
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As a business owner, the type of business structure you select will determine how much personal liability you will have for business debts and income taxes. Starting a business is a difficult decision filled with choices. It is a complicated process that involves everything from choosing a name to deciding whether to offer stocks. One of the initial decisions you have to make as a business owner is the legal framework of your business--sole proprietorship, a partnership, corporation or something in between. Evaluating the potential liability associated with your business will impact your choice of business structure. Generally speaking, if your business involves a high risk of getting sued and other potential serious legal troubles, you are on more solid ground forming as a corporation or a limited liability company (LLC) to protect personal assets.
General and Limited Liability Partnerships
A general partnership is one where multiple owners (partners) join together to divide profits any way they choose, but they also share the liability for all business activities. General partnerships are easy and inexpensive to form because they rarely require any specific filings. Most importantly, general partnerships offer the least amount of personal liability protection. Owners/Partners are personally liable for business debts. The personal assets of any partner can be used to cover business liabilities regardless of who incurred the liabilities. There is no limit on liability.
There are also limited liability partnerships (LLP) which provide additional liability protection. This structure protects some partners from specific liabilities of the others. This is attractive to professional groups like doctors, accountants, and lawyers because the partners will not be responsible for the malpractice of another partner. However, any liability the business incurs as an entity will impact all the partners.
Limited Liability Company (LLC)
This type of company is more expensive and time consuming to create, but it also provides additional protection. Owners must register an LLC with the Secretary of State and pay the customary fees, in addition to meeting filing requirements with the IRS. An LLC is taxed the same way as a partnership or corporation. The structure of an LLC is beneficial because it allows profits and losses to be allocated to reflect different levels of ownership. Another advantage of forming an LLC is that owners have limited personal liability for the business’ debts, even if the LLC owner is also one of the managers.
Understanding the Corporation Business Structure
A corporation is the most complex business structure because it has multiples levels of management and ownership. Forming a corporation is an expensive and involved process, which requires completing tasks such as appointing directors, creating by-laws, issuing stock certificates, and obtaining licenses or permits. Laws regarding the formation of corporations vary by state so it is important to check if the state in which you would like to incorporate has additional filing requirements or administrative obligations that are unique to that state. The benefit for a business to operate as a corporation is that it provides the greatest amount of liability protection because Corporations are considered entirely separate from their owners. For legal and tax purposes, corporations are separate entities, which means that owners have little to no personal liability for the business’ debts.