Beyond sole proprietorships, entrepreneurs can also choose to operate their businesses as general partnership, limited liability partnerships, limited liability companies, or corporations.

It is common for a person to start her or his business as a sole proprietor and at some achieved objective transition it into another business vehicle. Some of those other vehicles are described below.

General Partnership

Definition
This structure has a lot in common with a sole proprietorship, except that it allows for more than one person to share profits and liabilities. General partnerships accommodate individuals, corporations, trusts, other partnerships, or any combination of the above to unite.

Advantages
General partnerships are easy to establish, and to exploit (in a positive way) the skills, knowledge, and talents of all the partners. Additionally, profits are not directly taxed.

Disadvantages
Unlimited personal liability exists for all partners for all of the partnership’s debts and liabilities, not just for that partner’s “share.” As with a sole proprietorship, a general partnership terminates upon the death of a partner, so make sure you think this one through and do some advanced planning! Additionally, any partner can commit the firm to obligations. General partnerships do not protect participating partners against personal liability with regard to claims against the partnership.

Don’t make the mistake of failing to enter into a written agreement as you put in place this business vehicle. Ensure that all parties understand the terms and conditions and that all parties execute the agreement. Do not rely on an informal verbal agreement. Witnessed signatures are highly advisable in a general partnership.

Limited Liability Partnership (LLP)

Definition
LLPs are legal entities formed with your State’s secretary of state. These arrangements provide liability protection for all partners. In addition, all partners get management rights in the partnership. This entity is popular among professional practices and offers, for the most part, the same limited liability as does a corporation.

Just like a partnership, an LLP acts as a flow-through entity for federal and state tax purposes. Note that this entity type is different from a Limited Partnership (LP) which has one or more general partners who bear the operational and financial risks of the company and one or more limited partners who do not have operational or financial risks.

Advantages
Limited partners are liable only for the amount of their capital invested. In turn, each partner’s respective share of the partnership income and losses is reported on the partners’ personal income tax returns.

A required element of any partnership is the agreement itself. This agreement governs the operations of the business. Ensure the terms and conditions of this agreement are understood by all parties. We are huge advocates of clear and honest communication between partners, and the signed agreement is a cardinal element in keeping with this philosophy.

A nice advantage of the LLP is that there is not a requirement to include a termination date for the partnership in the agreement in some states. Also, LLPs are an independent legal entity and as such may own property, sue, or be sued.

Disadvantages
Because an LLP is an independent legal entity, its formation requires a bit more paperwork (legal documentation) than do general partnerships.

Note that in some states, if one of the partners in this type of entity leaves for whatever reason, the LLP automatically dissolves.

Limited Liability Company (LLC)

Definition
LLCs are a cross between partnerships and corporations. They unite the limited liability advantages of corporations with the tax status of a sole proprietor or partnership. (As a note, LLC owners are referred to as members.)

Advantages
Like partnership entities, LLCs are guided by an “operating agreement.” If such an agreement does not exist, the LLC is governed by the applicable State Limited Liability Company Act. LLCs may be formed by one or more owners or members but may own property, sue, and be sued in the LLC’s name.

LLC managers are elected by the members of the LLC and may be individuals or other entities. Managers do not have to be members of the LLC.

In some states, if the LLC’s Articles of Organization do not specify otherwise, the LLC are perpetual—similar to corporations.

Disadvantages
While not a big deal here, legal documentation figures in more prominently in an LLC than in a proprietorship or partnership, given that LLCs are legal entities. But like those business models, taxes flow directly to the individual members’ tax returns. This can be either an advantage or disadvantage. Note that the IRS does allow LLCs to elect to be taxed as corporations, but a discussion of the impact of that election is beyond the scope of this chapter.

Corporation

Definition
These are state-chartered organizations and are considered and act as separate legal entities. Corporations are the most structured of the business entities.

The corporate charter—a sort of operating agreement for the corporation—specifies business activities, and the business of a corporation must be in keeping with that specification.

Corporations may elect for tax purposes to file as a C-Corporation or an S-Corporation. The differences are defined by the tax filing status as determined by the chapters in the Internal Revenue Service Code.

C-corporations:
These pay federal and state income taxes on earnings.
Earnings are distributed to the shareholders as dividends, and earnings are thus taxed again. This double taxation is a huge drawback to this type of entity.

S-corporations:
These entities have the same legal attributes as C-corporations; however, S-corporations do not pay income taxes on earnings. Rather, the shareholders pay income tax on dividends, using their personal income tax return.

Advantages
Corporations continue to exist unaffected by the death or transfer of shares by any of the owners; also, owners’ liability is limited to the amount they have paid into their share of stock.

The Certificate of Incorporation may specify the corporation’s continuity; otherwise, they exist in perpetuity. As a separate legal entity, corporations may own property, sue, and be sued in the corporation’s name.

Disadvantages
These entities are closely regulated, including the double taxation for the C-Corporation.

In order for a corporation to maintain the liability protection, certain formalities must be followed to avoid “having the corporate veil pierced.” These formalities include holding annual shareholder and director meetings and having minutes of those meetings.

Porters Points—Boring!

• Carefully review your rules, your gas, your market analysis, and every other step you have taken so far. Where does you idea stand in relation to these legal frameworks? Decide and get to work. But to be sure—
• Talk to your attorney. If you don’t have one, get one.
• Talk to your accountant. If you don’t have one, get one.

That does it for Chapter 6: Boring! I told you I would be brief and to the point in this section of the book!