Sole Proprietorship Essay

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A sole proprietorship is the most common form of forming a business in the United States. The individual that forms the sole proprietorship and the business is one in the same. For example, if the business owes creditors money, the individual who created the sole proprietorship business has to pay the bill. When entering into contracts the individual is actually agreeing to the contract since the person and business is one in the same. The biggest advantage of doing business under a sole proprietorship is that it is extremely easy to form since the individual creating the sole proprietorship is the business. They are fully responsible for all aspects of the business including making good on payments, collecting monies from customers, and providing the goods or services to their clients. Another reason individuals create sole proprietorships is the flexibility they gain by owning their own business. Since they do not have anybody to report to they can do as they please as far as hours, vacations, expansion, or direction of the business.

However, there are many disadvantages that come with a sole proprietorship business. Since the individual is the business they are responsible for all financial responsibilities. They are responsible for ensuring all payments to creditors are paid on-time and in full. If the individual runs into financial issues they are responsible without protection. Also, sole proprietorships can only have one owner so you can’t bring others into the business. Likewise, they are unable to pass the business on to another individual. Tax planning can also be difficult for the individual since all income and debts for the company are also those of the individual. Overall, it is very dangerous to do business as a sole proprietorship due to the liability of the owner.

1. Costs: Almost no creation cost since there is nothing to create.

2. Longevity or Continuity of the Organization: A sole proprietorship business basically lasts as long as the owner decides to or dies.

3. Raise Capital / expand business: It is very difficult to raise capital or expand the business with a sole proprietorship type of business. It is impossible to bring others into the business, and any capital that may be raised will come directly from the owner.

4. Control: Full control of a sole proprietorship is in the hands of the owner since they do not have any other members.

5. Expand ownership: Since a sole proprietorship can only have one owner, it is impossible to bring others into the business.

6. Taxes: Due to having no legal distinction between the owner and the business, all income that the business generates is treated as personal income to the owner.

7. Liability: The owner of a sole proprietorship has unlimited liability since the owner and the business are one in the same. The owner is personally liable for all the business debts and obligations.

General Partnership General Partnership businesses are easily formed when individuals decide to conduct business together. These partnerships are usually created formally with a articles of partnership contract that contains the details of the agreement. General Partnerships share the profits and losses of the business and usually all members have a say in the direction of the business. Once the General Partnership has been formed both members share in the profits and losses of the business together. Compared to a Sole Proprietorship where the sole individual has responsibility for the profit and losses of the business, in a General Partnership these responsibilities are shared equally and therefore the profits are shared between the partners.

General partnerships also are taxed just like sole proprietorship businesses. For tax purposes, general partnerships are considered a disregarded entity, which means that income flows through the business to each partner. Then each member of the partnership pays income tax on the total business income. Since general partnerships are very easily formed, they can also be very easily disbanded. One issue with general partnerships is how to value a partner’s share of the business. Most times when the articles of partnership contract is agreed they will include a buy/sell agreement that contains details of a withdrawing member of the partnership. General partnerships are very similar to sole proprietorships in which they carry unlimited liability. This is one major drawback to a general partnership. If one member is fiscally responsible, but another is found of a wrongdoing, the other partner could be liable for their bad practices. Members do not have any protection from others bad acts or poor financial judgment.

  1. Costs: Relatively no cost involved in creating a partnership business. Any cost would be associated with forming the articles of partnership contract.

2. Longevity or Continuity of the Organization: Once the agreement of the partnership ends, the partnership ends. Any remaining partners can keep the partnership going if they so wish to.

3. Raise Capital / expand business: In raising capital a partnership has the same difficulties as a sole proprietorship has in that in raising any capital has to come from the partners.

4. Control: The control of a partnership is between the partners.

5. Expand ownership: It is nearly impossible to expand a partnership due to the agreement between the members.

6. Taxes: The partnership is taxed the same as a sole proprietorship is.

7. Liability: A general partnership is similar to a sole proprietorship in that each partner is jointly and severally liable for all financial liabilities.

Limited Partnership A limited partnership is quite similar to a general partnership except one member has limited liability in the partnership compared to unlimited liability in a general partnership. The limited partner in this partnership can only lose as much financially as they choose to invest. They are mostly for financial backing and are not financially liable for the business. Limited partnerships have to be formed in compliance with state law, and limited partners are generally prohibited in participating in day-to-day management of the business. In a limited partnership the percentage of limited partners’ losses or gains can never be greater than the value of their contributions. The profit of the partnership is that the partners share in proportion to their partnership interest. In general, the partners are taxed directly on the net income of the business. The gains and losses of the business pass through to the owners without the business itself being subject to tax. So in calculating the net income subject to tax, the owners’ salaries are generally not deductible. The owners may deduct the entire cost of group insurance and other fringe benefits of their employees. In 2003, the premiums for health insurance on the owners and their dependents are fully deductible. The partnership is basically a pass-through business, because the income from the business passes through to the owners and is taxable to them as individuals. The business itself is not taxed. A Costs: A limited partnership is also relatively low cost in when creating one.

  1. Longevity or Continuity of the Organization: Basically the same as a general partnership, once the agreement of the partnership ends, the partnership ends. Any remaining partners can keep the partnership going if they so wish to. On dissolution of the partnership the limited partner’s share has priority over the funds due to the general partners of the business, but is subordinate to claims of the firm’s creditors. If a death occurs, the limited partner’s personal representative is entitled to the deceased’s portion of assets and deferred profits in order to settle the estate. However, death of a limited partner does not dissolve the partnership, but the death of a general partner can end the business unless the partnership agreement states otherwise.
  2.  Raise Capital / expand business: This is the basis of why Limited Partnerships are created. When a General Partnership is looking for additional capital to expand or grow the business they can bring in a Limited Partner. This Limited Partner can invest into the business on a limited liability basis and only lose the amount of their investment. The General Partners will remain as so.
  3. Control: The control of a limited partnership lies with the general partners.
  4. Expand ownership: Since the partnership was formed with an agreement is it nearly impossible to bring in additional ownership. However, they can bring in additional Limited Partners.
  5. Taxes: A General Partnership is considered a disregarded entity for its tax purposes. So basically the income flows through the business to the partners. The partners then pay ordinary income tax on the business income. The partnership may also file an information return that reports total income and losses for the partnership and how those profits and losses are allocated among the general partners. Tax planning opportunities are limited for general partners.
  6. Liability: The liability of a limited partnership lies with the general partners and not the limited partners. Every partner in the partnership is jointly and severally liable for the partnership’s debts and obligations.

C Corporation A C Corporation is a separate legal entity that is separate from its owners. They can be created to have a limited duration or can be perpetual existing. Since there is separation between the owners and the corporation, these types of business can run smoothly regardless of ownership. Most corporations have existed well beyond the individuals who founded the company. However, since corporations are separate from their owners they have many legal and constitutional rights and must be in compliance with corporate law. Most companies are incorporated in the state where they are located, but this is not always true. Once incorporated in a certain state they must comply with the local state law. To form a corporation the founders must file what is called articles of incorporation with the local state agency in the state of their choosing.

The founders must state the name of the company, whether the company is for-profit or nonprofit. When choosing a name they must chose a unique name and include some form of the words, Incorporated, Company, Corporation, or Limited. Corporations are much more complicated to create when compared to other forms of business. The founders usually have to engage the assistance of attorneys and accountants to ensure they are maintaining the corporate law. Also, the corporation is responsible for many fees including annual license fees, franchise fees and taxes, attorney fees. Owners of the corporation are usually referred to as shareholders. One advantage of being a shareholder of a corporation is that you enjoy limited liability. They can only lose the amount of their investment. One disadvantage of a C Corporation is double taxation. Corporations are separate entities therefore the tax authorities consider them as taxable persons. They have a Employer Identification Number(EIN) so that tax authorities can identify the company. Also, due to all the corporate law that must be maintained in a corporation, a C Corporation is very difficult and expensive to manage.

  1. Costs: There are substantial more costs associated with creating a corporation than compared to a partnership or sole proprietorship. There are many fees when creating a corporation.

2. Longevity or Continuity of the Organization: Corporations can be created for a limited duration or they can have perpetual existences.

3. Raise Capital / expand business: With a corporation the owners can raise capital by selling shares or stock in the company. This capital can be used to expand the business.

4. Control: Owners of corporations are referred to as shareholders. Corporations can have as few as one shareholder or millions of shareholders.

Each shareholder can hold as few as one stock or many shares of stock. Depending on if the corporation is a closely held corporation or a publicly traded corporation, the number of shareholders will vary. However, not all shareholders are equal. U.S. corporate law allows for different types, or classes, of shareholders. For example, founders of a corporation may reserve a special class of stock for themselves with preemptive rights. Take Ford Motor Company for example. Ford has hundreds of thousands of shareholders, but issues two types of stock: Class A for members of the public, and Class B for members of the Ford family. Class B is far outnumbered by Class A stock. However, Class B stock is given 40 percent voting rights at any shareholder meeting, effectively allowing holders of Class B stock, which is the Ford family, to block any shareholder resolution that requires two-thirds approval to pass. So in sense by creating separate classes or types of stock, they have a strong voice in the future direction of the business.

5. Expand ownership: In a corporation they can expand ownership by simply selling shares or stock in the company.

6. Taxes: A C Corporation is held to double taxation.

7. Liability: Shareholders of a corporation enjoy limited liability and can only lose what they invest into the corporation. Personal assets of those shareholders are unreachable by creditors.

S Corporation A S Corporation is similar to a C Corporation except that it can choose to be taxed like a partnership or sole proprietorship. The “S” name comes from the subsection of the tax law. A S Corporation can only be taxed once where a C Corporation could be double taxed. Basically it is taxed at the shareholder level when the dividend is declared and not at the corporate level like a C Corporation. A shareholder then has to pay personal income tax when they receive their share of the profit. However, since corporations are separate from their owners they have many legal and constitutional rights and must be in compliance with corporate law. Most companies are incorporated in the state where they are located, but this is not always true. Once incorporated in a certain state they must comply with the local state law. To form a corporation the founders must file what is called articles of incorporation with the local state agency in the state of their choosing. The founders must state the name of the company, whether the company is for-profit or nonprofit. When choosing a name they must chose a unique name and include some form of the words, Incorporated, Company, Corporation, or Limited. Corporations are much more complicated to create when compared to other forms of business.

The founders usually have to engage the assistance of attorneys and accountants to ensure they are maintaining the corporate law. Also, the corporation is responsible for many fees including annual license fees, franchise fees and taxes, attorney fees. S Corporations provide the limited liability feature of corporations but the single-level taxation benefits of sole proprietorships by not paying any corporate taxes. However, many important restrictions are put on S corporations including; they cannot have more than one hundred shareholders, all of whom must be U.S. citizens or resident aliens, can have only one class of stock, and cannot be members of an affiliated group of companies. An S-corporation is usually reserved only for small businesses. S corporations are similar to partnerships, as they are pass-through forms of business. The owners are taxed on their proportionate share of the earnings of the corporation. It does not matter if the earnings are actually distributed to the owners of remain with the corporation as undistributed earnings. The owners must report these earnings personally. Expenses and losses are passed through directly to the shareholders. An S-Corporation is created and treated just like any other corporation except when it comes to tax treatment.

1. Costs: There is substantial more costs associated with creating a corporation than compared to a partnership or sole proprietorship. There are many fees when creating a corporation.

2. Longevity or Continuity of the Organization: Corporations can be created for a limited duration or they can have perpetual existences.

3. Raise Capital / expand business: With a corporation the owners can raise capital by selling shares or stock in the company. This capital can be used to expand the business.

4. Control: Owners of corporations are referred to as shareholders. Corporations can have as few as one shareholder or millions of shareholders. Each shareholder can hold as few as one stock or many shares of stock. Depending on if the corporation is a closely held corporation or a publicly traded corporation, the number of shareholders will vary. However, not all shareholders are equal. U.S. corporate law allows for different types, or classes, of shareholders. For example, founders of a corporation may reserve a special class of stock for themselves with preemptive rights. Take Ford Motor Company for example. Ford has hundreds of thousands of shareholders, but issues two types of stock: Class A for members of the public, and Class B for members of the Ford family. Class B is far outnumbered by Class A stock. However, Class B stock is given 40 percent voting rights at any shareholder meeting, effectively allowing holders of Class B stock, which is the Ford family, to block any shareholder resolution that requires two-thirds approval to pass. So in sense by creating separate classes or types of stock, they have a strong voice in the future direction of the business. The management of a S corporation is a board of directors with specific authorities. Shareholders elect a board of directors, who then in turn appoint corporate officers to manage the company.

5. Expand ownership: In a corporation they can expand ownership by simply selling shares or stock in the company.

6. Taxes: One way for corporations, mostly closely held corporations, to avoid the double taxation of a C-Corporation is to elect to be treated as an S-Corporation. The S comes from the subsection of the tax law that can choose to be taxed like a partnership or sole proprietorship. So basically it is only taxed once, which is at the shareholder level when a dividend is declared, and not at the corporate level. Each shareholder then pays personal income tax when they receive their share of the corporate profits.

7. Liability: Shareholders of a corporation enjoy limited liability and can only lose what they invest into the corporation. Personal assets of those shareholders are unreachable by creditors.

Limited Liability Company A limited liability company or LLC offers a mix between other forms of business. They enjoy the limited liability of a corporation, but the tax benefits of partnerships. The owner(s) of an LLC are referred to as members. However, a member can participate in the general day-to-day activities of the business as compared to a limited partnership. One of the biggest advantages of a LLC is how flexible the taxation can be. This can change from year-to-year, and the members can choose if they would like to be taxed as a corporation or as a partnership. Also, starting an LLC is usually easier than starting a corporation. In most cases, you can create an LLC with only a name and the legal contact information. LLC’s are also not required to issue stock certificates, maintain annual filings, elect a board of directors, hold shareholder meetings, appoint officers, or engage in any regular maintenance of the entity. Since a LLC is a hybrid form of business organization and owners are referred to as members, just like a sole proprietorship, it is possible to create an LLC with only one member. The profits of an LLC vary depending on the operating agreement between the members. The profits can be split differently depending on the source of the cash investment. A LLC can also allocate distributions disproportionately to the amount each member originally invested in the company. A LLC offers members many advantages, but it does have a few disadvantages. Raising capital in a LLC can be quite difficult as most lenders will ask members to guarantee any loans the LLC may take out.

  1. Costs: Relatively low cost in creating a LLC.

2. Longevity or Continuity of the Organization: A LLC usually can last as long as the business is sustainable.

3. Raise Capital / expand business: Raising capital for an LLC is quite difficult especially in the early stages. Most lenders require the LLC members to personally guarantee any loans the LLC may take out.

4. Control: The control of the business is with the members of the LLC.

5. Expand ownership: A LLC can add expand ownership like a partnership, but these members can participate in the day-to-day activities.

6. Taxes: Taxation in a LLC is very flexible. Essentially, the LLC can determine how it chooses to be taxed each year.

7. Liability: A LLC has limited liability similar to that of a corporation. Part B (The Memorandum)

•A recommendation of a specific form of organization that should be used in the given situation •A justification or rationale as to why that is the best business organization form for this situation

Date August, 24, 2012From: Joshua Jensen Attention ofBusiness Owner

Subject: Business Recommendation Based on your intentions to form your own business where you are a manufacturer’s representative for industrial-type of equipment and are going to begin the business as the sole owner, I would recommend that you create this business under the limited liability company (LLC) type of business due to many advantageous reasons. One key advantage to creating a business under the LLC form of organization is the limited liability protection to all of your personal assets. This is a major reason why a LLC type of organization is one of the most popular ways to create a business today. This is an advantage if you were to create a sole proprietorship due to the fact that you would be liable for all debts and financial obligations. Another reason why I’m recommending a LLC type of organization is the flexibility you will get with taxation. Basically, every year you can choose how the LLC will be taxed. One year you may want to be taxed like a corporation and pay corporate income tax on net income, or you may instead have the income flow through the business to yourself then pay personal income tax.

Also, there is no requirement to issue stock certificates, maintain annual filings, elect a board of directors, hold shareholder meetings, or engage in any regular maintenance of the entity. However, since it is a separate legal entity from yourself, you must take care to interact at arm’s length because the risk of piercing the veil exists with LLCs as much as it does with a corporation, especially in the early stages. In addition to also having full control of the business, this individual can add owners to the LLC as he so choses and can give them a say in day-to-day activities. However, by choosing a LLC the continuity of the business can be disrupted by death, retirement, or resignation. These rules will vary by state law. Also, each member will share the profit proportionately to their interest in the business. The operating agreement can also require a number to obtain interest beyond transferring interest. Overall, in your particular situation the advantages of creating the business under a Limited Liability Company is in your best interest.

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