John Owner, thank you for seeking advice on starting a business and wanting to know the disadvantages and advantages of starting a business. It is very important in researching the different types of businesses and creating a plan for success. Starting a business can be tough but also can be very rewarding. In setting up a business there are three main structures a person can start: Sole Proprietorship, Partnership or a Corporation. Each business structure has its advantages and disadvantages that I will address. A sole Proprietorship is the lease expensive and easiest way to start a business. This type of business gives the owner total authority over all decisions made within the business. The business can either be in your personal name or a trade name you make up. The disadvantages of a Sole Proprietor are the owner is liable for everything. Every decision that is made is totally on the owner.
Owning this type of business gives the owner no liability protection where the business and personal assets are not separated. So if something goes wrong and you are sued the plaintiff can go after your personal assets for reimbursement. For tax purposes, any income earned is the income the owner earns not the business. An owner of a sole Proprietorship fills out a schedule C on the 1040 tax returns. Another type of business structure is a Partnership. There are two types of Partnerships: General and Limited. In a general partnership, there is usually a written agreement between the two or more people regarding how profits are split, their roles and their responsibilities. In a limited partnership, ownership limits the personal liabilities based on their capital investment into the business. In this type of partnership knowing your roles, having respect and trust in one another is vital and understanding the boundaries within the organization. When it comes to the partnership debts every partner is liable for their share of the partnership as well as all of the debts of the business.
Each partner is liable for the actions of the other partner or partners. When a partner leaves or is added the partnership assets must be valuated. Regarding tax purposes, the partnership itself does not pay the income tax, the profits and losses pass through to the owners. The last business structure is a Corporation. A Corporation can be divided into three different structures such as: General, Subchapter S Corporation and a Limited Liability Corporation. The most common type of corporation is the General Corporation. This type of corporation is a separate legal entity, is owned by stockholders and has an unlimited number of stockholders that can be involved. An advantage of this corporation is that the stockholders personal assets are protected from the business debt and liabilities. Stockholders can leave and not affect the corporation as it continues to do business going forward. The disadvantages are forming a General Corporation can be very complex and the use of an attorney and tax accountant is necessary.
They also face double taxation where the Corporations income is taxed at a flat rate and the dividends distributed to the shareholders is taxed as well. The S Corporation has special IRS tax status and allows these owners to be taxed like a sole proprietorship or partnership. This type is usually used by small business owners. Within an S corporation the advantages are tax savings where the business expenses are tax credits and the independent life is separate from its shareholders. The main disadvantages are having stricter operational processes and shareholders compensation requirements. In an LLC, which is similar to an S corporation in nature. An advantage that LLC’s offer is the added flexibility in regards to how it’s managed either by the owner or by someone he or she hires. There are also fewer S Corp restrictions involved as well. The personal assets of the owner or owners are protected from the businesses debts in case of litigation as long as the business records are kept separate from the personal records. LLC’s do not pay double taxation since the corporations income is passed through to the LLC owners.
Parino, R., Kidwell, D.S., & Bates, T.W. (2012). Fundamentals of Corporate Finance (2nd ed.). Hoboken, NJ: John Wiley & Sons, Inc