When starting a business, it is important first to decide which form of business you want to establish. The kind of business structure that you go for will determine the income tax return, legal and financial liability and decision- making authority. The type of business structure you go for, depends on the kind of business you own or want to start, the number of owners it has, and its financial situation. There are five different types of business structures;
A sole proprietorship is a type of business that is owned and operated by one person. All the profits, losses, liabilities, and decisions belong to the owner. No formal action is required to form a sole proprietorship. Licenses and permits are required in a sole proprietorship form of business. To acquire federal, state and local permits, licenses and regulations you can use the Licensing and Permits tool. If you decide to operate under a different name other than yours, you must have a file of a trade name or assumed name. Ensure that the name you choose is original and not claimed by another business. In this form of business, the business is not taxed differently from you. You must report all the income or losses and expenses
A business partnership is one formed by two or more people. They agree to contribute money, labor and skill and share profits, losses, decision making and management. Every member should be involved in the decision-making process, and they should develop a legal partnership agreement.
There are three types of partnerships
– General partnerships. – In this kind of arrangement, all members equally share the business profits, any liabilities, and management of duties
– Limited Partnership. Depending on partner’s investment, one can have limited responsibility and limited input in management decisions
– Joint Ventures. Acts as general partnership but for a limited time
To form a partnership, you must register with your state then obtain the necessary permits and licenses. The partnership owners must file an annual information return to report their income, deductions, gains and losses but the business doesn’t pay income tax. The income tax is typically paid by each partner on their personal tax.
A corporation is a separate legal entity from the individuals who form it and it is owned by shareholders. In this structure, the corporation and not the shareholders are liable for all the actions. A Corporation has costly administrative fees and complex tax requirements. To form a cooperation, you are needed to register the legal name to your state government. Corporation should pay state, federal and local taxes. They pay their income tax on their profits.
Limited Liability Company (LLC)
In LLCs, owners have limited personal liability for actions and debts. Members of an LLC may include individuals, corporations, other LLCs or foreign entities. It provides with special tax treatment that prevents double taxation of the owners’ income.
This is a business owned by and operated for the benefit of those using its services. Profits are distributed among the members. There is elected board of directors who are elected by members. Cooperatives do not pay federal income taxes but instead its members pay federal and income tax on the margin earned by the cooperative.
It is crucial to read and understand more about business structures, taxes, and rules that govern each business structure before starting a business.