Guide to Business Legal Structure

Starting a business is an exciting journey where you learn new things at every step. One of the first things you must do is choose a business legal structure that matches your needs and follows the law. This article will discuss different business structures, why it’s essential to follow the law at federal, state, and local levels, and how to keep your ideas safe.

Choosing the Right Business Structure

The legal structure you select will affect how you run your business, including how you pay taxes, how you can raise money, and your personal responsibility if anything goes wrong. Let’s look at some common types of business structures:

Sole Proprietorships

A sole proprietorship is a business structure ideal for individuals running small, home-based operations. Great for businesses with just one owner. They are easy and cheap to set up. The owner has full control but is also fully responsible if anything goes wrong.

Costs for starting include state and federal fees, taxes, and equipment leases. Examples include freelance writers and tutors.

Advantages:

Easy setup: Minimal paperwork, no partners or boards involved.
Low cost: Mainly license fees and business taxes.
Tax benefits: Eligible for certain deductions like health insurance.
Easy exit: No formal paperwork to dissolve the business.
Famous companies like eBay and Walmart initially started as sole proprietorships.

Partnerships

A partnership, owned by two or more individuals, comes in two types: general, sharing all equally, and limited, with one operational leader while others share profits. It is ideal for family, friends or business partners wanting to run ventures like restaurants together, allowing shared decision-making and profits or losses.

Initial costs are higher than sole proprietorships due to the legal review of partnership agreements.

Notable partnerships include Google, co-founded by Larry Page and Sergey Brin, growing from a small search engine to a global leader. Other examples are Warner Bros., Microsoft, and Apple.

Advantages:

Easy formation: Minimal paperwork, with some additional state-required filings.
Growth potential: Obtaining loans with multiple owners providing varied credit histories is easier.
Special taxation: Partners report shared income or loss on individual tax returns, avoiding corporate tax.

Limited Liability Companies (LLCs)

An LLC is a blend that allows owners to limit personal liabilities like a corporation while enjoying a partnership’s tax benefits and flexibility. LLC members don’t have to pay for business debts from their pocket unless negligence or wrongful actions are proven.

Brian Cairns, CEO of ProStrategix Consulting, mentioned, “LLCs provide the liability protection of corporations while allowing earnings and losses to pass through to owners as personal income.” LLCs can have multiple members with flexible profit and loss distribution.

The cost to form an LLC varies by state, ranging from $40 to $500. For instance, New York LLCs pay a $200 filing fee plus a $9 biennial fee.

While typical among small law, tax, or accounting firms, big companies like Anheuser-Busch also opt for this structure. Other notable LLCs include Pepsi-Cola, Sony, and Nike.

Corporations

A corporation is a separate legal entity with its own rights from its owners. It can own property, sue or be sued, and sell ownership rights in stocks.

There are several kinds of corporations:

C corporations like Apple and Amazon are owned by shareholders and taxed separately.
S corporations, tailored for small businesses, avoid double taxation and provide limited liability protection.
B (benefit) corporations, like The Body Shop, focus on creating positive societal impact.
Closed corporations like Hobby Lobby are privately held, offering more operational flexibility.
Open corporations like Microsoft and Ford trade publicly, allowing anyone to invest.
Nonprofit corporations like the American Red Cross emphasize altruistic goals and enjoy tax exemptions.

Corporations offer several advantages, including:

Limited liability and continuity.
Ability to raise capital quickly from multiple investors.
They are ideal for businesses that have grown beyond the startup phase.

Notable examples of corporations include General Motors, Amazon, and Exxon Mobil Corp.

Cooperative

A cooperative (co-op) is owned and served by its members, known as user-owners, who vote on its mission, share profits, and benefit from its offerings. Co-ops can gain increased funding through federal grants and provide members discounts and better service by leveraging their business size.

Forming a co-op is complex, requiring a business name indicative of its corporate status (e.g., Inc. or Ltd.), with varying state filing fees. Notable co-ops include CHS Inc., Land O’Lakes, Navy Federal Credit Union, Welch’s, REI, and Ace Hardware.

Each structure has its pros and cons. The right choice depends on what you want for your business, how much control you want to keep, and how much risk you are willing to take.

Following the Law

Following the law at every level is crucial to run your business smoothly. Here are some steps to make sure you’re on the right track:

Get the Right Permits and Licenses

Every business needs specific permits and licenses to operate. These may change based on where you are and what your business does.

Understand and Pay Your Taxes

Know and follow your tax duties. This includes federal, state, and local taxes, payroll, and sales tax.

Know Employment Laws

If you plan to hire people, learn about employment laws, like wages, benefits, and workplace safety.

Check Zoning and Environmental Laws

Ensure your business location follows local zoning laws and environmental rules to avoid fines.

Keeping Your Ideas Safe

Your ideas are what makes your business unique. Keeping them safe through patents, trademarks, and copyrights is crucial for long-term success.

Patents: If you invent something new, a patent will keep others from making, selling, or using it for a specific time.

Trademarks: Trademarks protect symbols, names, and slogans used to identify goods and services. They help people recognize your brand in the market.

Copyrights: Copyrights keep others from copying original works like writings, music, and art without permission.

Starting a business involves many decisions. Choosing a legal structure is one of the most important as it sets the stage for how you will run, manage, and grow your business. Following the law and protecting your ideas are critical steps in building a solid foundation for your venture. While legal stuff might seem scary, with the right help and resources, you can get through it easily, letting you focus on running your business.

FAQs

What is a business legal structure?

A business legal structure is a formal setup that defines how your business is organized, operated, and taxed. A business legal structure, also called a business entity, is a designation set by the government that governs various facets of your business. Federally, it dictates your tax obligations, while on a state level, it can impact your liability considerations.

Why is a business legal structure important?

The importance of choosing the right business legal structure stems from its impact on various areas:

Taxes: Business structures like sole proprietorships, partnerships, and S corporations treat business income as personal income, while C corporations separate business and personal income, affecting tax liabilities.
Liability: LLCs offer personal asset protection against lawsuits, although recognized only at a state level, while C corporations provide similar protection federally.
Paperwork: Different structures require distinct tax forms and documentation, like articles of incorporation for corporations or special filings for partnerships using fictitious names.
Hierarchy: Corporations necessitate a board of directors, ensuring business continuity even with owner-share transfers or exits, unlike other structures.
Registration: A legal structure is essential for state business registration, obtaining an employer identification number (EIN), and securing required licenses and permits.
Fundraising: Structures like sole proprietorships limit fundraising methods, such as offering stocks, which is primarily an option for corporations.
Alteration Challenges: Changing business structures can be complex and may potentially lead to tax issues or unintentional business dissolution.

What business structure should I choose?

The choice of a business structure will depend on various factors:

Liability Protection: If limiting personal liability is crucial, consider LLCs or Corporations.
Tax Considerations: Evaluate how different structures are taxed. For instance, S corporations avoid double taxation.
Management Control: Sole Proprietorships or Partnerships offer more direct control, while Corporations have a structured management hierarchy.
Funding Needs: Corporations might be better if you plan to raise capital from investors.
Growth and Size: Larger or fast-growing businesses may benefit from the formal structure of a Corporation.
Ease of Formation: Sole Proprietorships are easier to form than Corporations or LLCs.
Long-term Goals: Consider your long-term business goals, including selling the business, going public, or staying private.

It’s advisable to consult with a business attorney or a business advisor to understand the implications of each structure.

How can I protect my intellectual property?

Protecting intellectual property can be achieved through:

Patents: Obtain patents for inventions, new products, or processes.
Trademarks: Register trademarks for your business name, logos, and slogans.
Copyrights: Secure copyrights for original works like writings, music, or artwork.
Trade Secrets: Keep sensitive business information confidential through non-disclosure agreements.
Legal Counsel: Engage legal counsel to ensure proper IP protection and to handle any infringement issues.

How do I ensure that I have obtained all necessary permits and licenses?

Steps to ensure you have obtained all necessary permits and licenses include:

Research: Understand your industry and location’s federal, state, and local licensing and permit requirements.

Consultation: Consult with a business attorney or contact local business regulatory authorities.

Application: Apply for required permits and licenses, ensuring you complete all necessary paperwork accurately.

Record-keeping: Keep a record of all permits, renewals, and any communications regarding licensing.

Compliance Check: Regularly check for compliance with all permits and licensing requirements, especially if there are changes in laws or your business operations.