LEGAL STRUCTURES OF BUSINESSES

Choosing the legal structure of your business is one of you first important steps. What type of business do you want to own? You need to consider taxes, estate planning, and financial issues. Selecting the one that is best for you involves deciding what type of legal structure is best for your business.



There are several options available. These include sole proprietorship, general partnership, c-corporation, s-corporation, and limited liability company. A study of the pros and cons of each will help you determine which would be the best for your tea business.

A sole proprietorship is run by an individual with no outside shareholders. This is the simplest business entity. This type avoids the potential for double taxation assessed on corporations. However, it exposes you to personal liability for every act and debt of the business. There is no room to expand through the addition of new owners and their capital. Many of the tax deductions available to other forms of business organizations, such as expenses for health benefits and pension plans are unavailable. The sole proprietorship terminates at the proprietor’s death.

When two or more persons enter an agreement (either written or oral) to operate a business together a general partnership is formed. This partnership files an “informational” tax return, and the partners must report their share of the partnership’s profit or loss on their individual tax returns with a K-1 statement. Most states have a Uniform Partnership Act that sets forth guidelines for this type of entity. Partners are jointly and severally liable for all the obligations of the partnership. This means that you can be held liable to a third party for all debts and torts of the partnership. This is the primary disadvantage of doing business as a partnership. The death of one partner usually terminates the partnership so it is hard to use them in estate planning.

There are three different types of corporations that I will mention here, although there are others that you could form. The first is a C-corporation. (The letter "C” refers to a subchapter of the IRS Code for corporate tax purposes.) These are usually large, publicly held companies, but they also include small and even single-owner companies. The distinguishing characteristics of a C-corporation are that it may have more than one class of stock (such as common stock or preferred stock) and an unlimited number of shareholders, and that the taxes on its profits are paid by the corporation.

In an S-corporation the profits and losses are not reported at the corporate level. Instead, they are reported on the owner’s personal tax returns in much the same way as partnerships. S-corporations are limited to one class of stock and must file their tax returns on a calendar year. The S-corporation provides a substantial tax benefit in that it may allow you to pass the losses of your business through to your personal tax return. This is a significant benefit in the early years of a business because the business may generate “paper losses,” but still make enough money to pay your salary. You can switch from being an S-corporation to a C-corporation (or vice versa) only once during the existence of you company.

The third type of corporation is the limited liability company (LLC). This is a new form of ownership established by an operating agreement that is similar to the bylaws of a corporation. LLCs combine the best attributes of partnerships and S-corporations; they’re taxed like a partnership, but liability is limited like a corporation. LLCs can also be used effectively in estate planning. Most states require that you file limited liability articles and annual reports with the Department of Commerce.

You should decide what type of legal structure you want for your tea business. My best advice is talk to an attorney or to a CPA. The money you spend here will save you headaches, not to mention money, in the future.

A quick overview of the advantages and disadvantages of the different forms of ownership:

Sole Proprietorship
Advantages
Low start-up costs
Owner in direct control
Minimal working capital requirements
Tax advantage to owner
Disadvantages
Unlimited personal liability
Lack of continuity
Difficulty in raising capital
Ownership limited to one person

General Partnership
Advantages
Ease of formation
Low start-up costs
Broader management base
Direct sharing of profits
Disadvantages
Unlimited personal liability
Lack of continuity
Difficulty in raising additional capital
Bound by acts of partner

C-Corporation
Advantages
Limited liability
Separate legal entity
Transferable ownership
Ease of raising capital
Disadvantages
Activities limited by the charter and regulations
Most expensive form to organize
Double taxation

S-Corporation
Advantages
Limited liability
Taxed as ordinary income to shareholders
Transferable ownership
Ease of raising capital
Disadvantages
Must have calendar year
Limited to 35 shareholders
Expensive form to organize
Only one class of stock is permitted

Limited Liability Company
Advantages
Freedom to choose options
Tax attributes of a partnership
Flexible management
Transferable ownership
Disadvantages
No case laws
Expensive form to organize
Relatively new legal entity
Limited transfer of interest

Once again, always seek advice from your lawyer and accountant when considering the legal structure of your business.

Licenses, Taxes, Financial

Governmental Regulations

Managing Risk

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