What Types of Businesses Entities Are There?


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If you are looking to start a business in the East Bay then one of the first steps involves choosing which business form best suits your needs. The most popular options include sole proprietorships, limited liability companies, and corporations

A sole proprietorship is not an entity, it is doing business as an individual under a fictitious business name, also known as a “DBA”. Each entity form has different benefits and drawbacks, meaning there is no “correct choice” that works for every business. The best option depends on a business owner’s need to raise capital, preference for a management structure, appetite for risk and liability,
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as well as their tax preferences.

Sole Proprietorship

A sole proprietorship is not a business entity. It is just an individual doing business under a fictitious business name. A sole proprietorship does not necessarily require any registration with the state or federal government to create an entity. However, a sole proprietorship has several notable downsides. Most importantly, a sole proprietor is personally liable for any debts and potential lawsuits against their business. To avoid this unnecessary source of liability, it is best to speak to a business formation lawyer who can discuss your specific case and needs.

Limited Liability Company

A limited liability company, more commonly known as an LLC, is currently the most popular business entity in California. An LLC can be structured in many different ways, not all of which will work for a business. In order to form a limited liability company, an East Bay business will need to file Articles of Organization with the California Secretary of State and pay the filing fees. Though not absolutely essential to the formation of the LLC, no experienced business person would operate an LLC without the essential written formation documents including a carefully written operating agreement and formation actions by written consent.

A limited liability company has several options for tax status, many of which will provide “pass-through” taxation. This means that all of the profits and losses derived from the business will “pass through” to the members, which are the owners of the LLC, and in these cases individual tax rates will apply to the business income. The tax choices for an LLC could include “disregarded status”, “partnership”, “S” corporation or “C” corporation tax status. Except for the “C” corporation status, all of these taxation choices provide “pass-through” taxation. With “C” corporation tax status, the corporate profits and losses are allocated to the corporation at the corporate level and then any profits would be taxed again as dividends when they are distributed to the shareholders, the owners of the business. This is known as “double-taxation” and a limited liability company has many tax options to avoid double taxation. Further, under the Tax Cuts and Jobs Act, taxpayers will be able to deduct 20 percent of all income derived from many types of pass-through entities.

Corporations

A corporation was historically used for larger companies, though the more recent taxation form of “S” corporation may be suitable for smaller companies under the right circumstances. Corporations are subject to more rigid rules than are LLC’s. And corporations may require more filings with the state government and may be subject to more regulation and governmental oversight. Most large corporations listed on a stock exchange are C corporations. A corporation is the entity of choice for certain types of investors. S-corporations offer pass-through tax treatment and are often used for privately owned businesses.

Selection of the appropriate business structure is important and can have long-term ramifications.

ABOUT THE AUTHOR: Jim Gulseth
James H. (Jim) Gulseth was born and attended high school in Devils Lake, North Dakota and graduated with an A.B. degree from the University of California at Berkeley. He earned his JD degree at the University of California Hastings School of Law in San Francisco. He is a member of the Corporations, Business Transactions, Securities and Tax and Intellectual Property Sections of the State Bar of California and is a member of the State Bar of California, the Alameda County Bar Association, and a member and past President of the Eastern Alameda County Bar Association.

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Disclaimer: While every effort has been made to ensure the accuracy of this publication, it is not intended to provide legal advice as individual situations will differ and should be discussed with an expert and/or lawyer. For specific technical or legal advice on the information provided and related topics, please contact the author.

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