What are the 4 types of business organizations?

What is a business Organization?

Business organization, an entity formed for the purpose of carrying on commercial enterprise. Such an organization is predicated on systems of law governing contract and exchange, property rights, and incorporation.

The term business organization describes how businesses are structured and how their structure helps them meet their goals. In general, businesses are designed to focus on either generating profit or improving society.

The fundamentals of financial management are the same for all businesses, large or small, regardless of how they are organized. Nevertheless, the legal structure of a company influences its business operations and should therefore be recognized.

The shape your business takes affects a variety of factors, many of which will determine the future of your business. Aligning your goals with the type of your business organization is an important step, so it is important to understand the pros and cons of each type.

When you’re forming your new business, you will want to take into account the following:

  • Your (practical) vision regarding the size and nature of your business.
  • The level of control you wish to have.
  • The level of “structure” you are willing to deal with.
  • The business’s vulnerability to lawsuits.
  • Tax implications of the different organizational structures.
  • Expected profit (or loss) of the business.

Now let’s dig into the different forms of business organization.

Types of Business Organization

There are 4 main types of business organization:

  • Sole Proprietorship,
  • Partnership,
  • Corporation, and
  • Limited liability companies (LLCs) and limited liability partnerships (LLPs).
Forms of Business Organization

Below, we give an explanation of each of these and how they are used in the scope of business law.

1. Sole proprietorship

A sole proprietorship or individual entrepreneurship is a business owned and operated by a person. A sole proprietorship is a person who works exclusively for himself. He alone brings in the capital and skills and is solely responsible for the company’s results.

Indeed, the sole proprietor is the chief judge in all matters pertaining to his business and is subject only to the general laws of the country and the particular laws that may affect his particular business.

Sole Proprietorship Advantages

  • Easiest and least expensive form of ownership to organize
  • They are subject to few government regulations, and
  • They are subject to lower income taxes than are corporations.
  • Owner receives all the profits
  • Profits are taxed only once
  • Owner makes all decisions and is in complete control of the company (could also be a disadvantage)

Sole Proprietorship Disadvantages

  • Owners have unlimited personal liability for the company’s debts, so they can lose more than they invested in the company. You could invest $ 10,000 to start a business but be sued for $ 1 million if one of your employees hits someone with a car during work hours.
  • The life of the company is limited to the life of the person who started it; and to bring in new equity, investors need a change in corporate structure.
  • Because of the first two points, companies have difficulty obtaining large amounts of capital; Therefore, property rights are mainly used for small businesses. However, companies are often set up as own companies and then converted into corporations when their growth outweighs the disadvantages.

Tip: When starting a sole proprietorship, check what liability you have. If you sell advice or services, you may need failure and omission insurance to protect yourself against negligence claims. Determine what you have to lose. Do you have a home or savings account? In the event of a legal dispute, your personal assets could be at risk.

2. Partnerships

A partnership is a legal arrangement between two or more people who decide to do business together. Partnerships are similar to ownership companies in that they are relatively easy and inexpensive to set up. In addition, the company’s income is proportionally allocated to the shareholders and taxed individually.

This allows the company to avoid corporate tax. In principle, however, all partners are personally liable without limitation, if a company goes bankrupt and a partner can no longer pay his proportionate share in the company, the remaining partners are responsible for settling the liabilities of unsatisfied claims.

For example, the actions of a Texan partner can ruin a millionaire in New York who had nothing to do with the actions that led to the company’s demise. Unlimited liability makes it different! Cult for partnerships to raise large amounts of capital.

Disclaimer: When entering into a partnership, it is extremely important that everything is clear in case things go wrong, especially when starting a business with a loved one or friend. Get legal advice to prepare a partnership operating agreement to clarify all business decision-making options, including succession or exit plans.

Partnership Advantages

  • Easy to establish (with the exception of developing a partnership agreement)
  • Separate legal status to give liability protection
  • Profits taxed only once
  • Partners may have complementary skills

Partnership Disadvantages

  • Partners are jointly and individually liable for the actions of the other partners
  • Profits must be shared with the partners
  • Divided decision making
  • Business can suffer if the detailed partnership agreement is not in place

3. Corporations

A company is legally seen as a unique entity separate from the owners. This means, among other things, that the profits generated by a corporation are taxed as “personal income” of the company. Then the income distributed to shareholders as dividends or profits is again taxed as the personal income of the owners.

A corporation can tax, sue, and enter into contractual agreements. The corporation has a life of its own and does not dissolve when ownership changes.

There are three types of companies: C-Corporation, S-Corporation, and Limited Liability Company.

C-corporation

A C-corporation is a corporation that is taxed separately from its owners. It gives the owners limited liability which encourages more risk-taking and potential investments.

C-Corporation Advantages
  • Limited liability
  • Transfer of ownership, shareholders can sell their shares
  • Capital is easier to raise through the sale of stock
  • Company paid fringe benefits
  • Tax benefits
C-Corporation Disadvantages
  • Double taxation (corporation and shareholder earnings taxed)
  • Can be costly to form
  • More administrative duties – required by law to have annual meetings, notify stockholders of the meeting, must keep minutes of meetings and turn in
  • Pay corporate taxes at a different time than other forms of business

S-Corporation

An S-company, also known as a subchapter S-company, offers owners limited liability. S-companies do not pay income tax, but the income and profits are treated as distributions. Shareholders must declare their income in their individual income tax returns.

S-Corporation Advantages
  • Limited liability
  • Avoids double taxation, Profits taxed only once
  • Capital is easier to raise through the sale of stock
  • Transfer of ownership is easy
S-Corporation Disadvantages
  • It Can be costly to form
  • Stockholders limited to individuals, estates or trustees
  • Required administrative duties
  • Cannot provide company paid fringe benefits
  • Stockholders are limited to citizens or resident aliens of the United States

4. Limited Liability Company

A limited liability company (LLC) is a relatively new type of organization that is a mix of a partnership and a corporation. A Limited Liability Partnership (LLP) is similar to an LLC; However, LLPs are used for professional accounting, law, and architecture firms, while LLCs are used by other companies. Both LLCs and LLPs have limited liability like corporations, but are taxed like partnerships.

Unlike limited partnerships, where the general partner has full control of the business, investors in an LLC or LLP also have voting rights in proportion to their share of ownership. LLCs and LLPs have grown in popularity in recent years, but large corporations still find it beneficial to be a C-company because of the benefits of raising capital to support growth. LLCs / LLPs were invented by lawyers, and it is necessary to hire a good lawyer to start one.

Tip: Forming an LLC requires the business owner to file legal paperwork. You may want to consult an attorney to assist you with the process. Here is a list of service providers in Missouri that provide legal assistance.

Limited Liability Company Advantages

  • Most common business structure and specifically created for small businesses
  • Must have insurance in case of a suit
  • Separate legal entity
  • Usually taxed as a sole proprietorship
  • Unlimited number of owners

Limited Liability Company Disadvantages

  • Can be costly to form
  • Yearly administrative costs
  • Personal tax liability
  • Legal and accounting assistance is recommended

Why is choosing a organizational form important?

When choosing the organizational form, a company has to weigh the advantages of founding against a possibly higher tax burden. However, when organized as a corporation, the value of any company other than a relatively small company is likely to be maximized for the following reasons:

  • The limited liability reduces the risks borne by investors; and other things are kept constant, the lower the company’s risk, the higher its value.
  • The value of a company depends on its growth opportunities, which depend on its ability to attract capital. Because corporations can attract capital more easily than other types of businesses, they are better able to take advantage of opportunities for growth.
  • The value of an asset also depends on its liquidity; Which mean the time and effort required to sell the asset for cash at a fair market value. Since shares in a corporation are easier to transfer to a potential buyer than a stake in a sole proprietorship or partnership, and because more investors are willing to invest in shares than in partnerships (with potentially unlimited liability), a corporate investment is relatively liquid. This also increases the value of a corporation

FAQs.

What is a Business Organization?

Business organization, an entity formed for the purpose of carrying on commercial enterprise. Such an organization is predicated on systems of law governing contract and exchange, property rights, and incorporation. Most large industrial and commercial organizations are limited-liability companies.

What are the forms of business organization?

There are 4 main types of business organization:
1. Sole Proprietorship,
2. Partnership,
3. Corporation, and
4. Limited liability companies (LLCs) and limited liability partnerships (LLPs).