If your goal is to start your own business, one of the initial decisions that you will have to make is how to legally structure your business. You must take various factors into account when making this decision, such as the method of taxation, personal liability for the debts of the business, and whether you will have employees.
1. Corporations
One widely used business structure, especially for larger companies, is the corporation. A corporation is a separate legal entity from its owners that one or more directors operate. This business structure typically shields directors and shareholders from personal liability for debts of the corporation. A corporation pays taxes separate from its shareholders, who also pay taxes on their corporate earnings. Setting up a corporation, however, can be a complex endeavor, as you must file Articles of Incorporation with the California Secretary of State and maintain other legal requirements to protect the corporate structure. Corporations require a higher level of formality than other business entities. Complying with these various formalities and legal requirements can be critical to maintaining corporate status and avoiding liability for the shareholders.
Multiple types of corporations exist under state law. These corporations include general corporations, S corporations, non-profit corporations, and professional corporations. A corporation must meet different criteria to qualify as a specific type of corporation.
2. Limited Liability Companies
A limited liability company or LLC also offers protection for its members from company debts and losses, just as a corporation does. LLCs have a manager to direct their everyday affairs and one or more members. Unlike corporations, though, LLC members claim LLC income on their personal income tax returns. An LLC is not a separate entity for taxation purposes, although it is a formal business entity.
This business entity also must register with the Secretary of State, but does not file its Operating Agreement, which is its governing document, with that office. However, you do have to file Articles of Organization with the Secretary of State.
3. Limited, General, and Limited Liability Partnerships
Each type of partnership also must register with the Secretary of State, although the required paperwork differs. A general partnership consists of two or more partners running a business to make a profit. They are equally liable for all debts of the company and they pay taxes on their personal profits. A limited partnership, however, has at least one general partner who acts as the controlling partner for the company. General partners have unlimited personal liability for the limited partnership, whereas at least one limited partner has only limited liability, to the extent that he or she participates in the business.
Limited liability partnerships are business entities restricted to certain types of businesses, including accounting, law, architectural, engineering, land surveying firms. Companies that provide services or facilities to California LLPs practicing law or accountancy also may register as LLPs. State law also requires that LLPs maintain specific levels of insurance coverage to operate legally.
Most partnerships operate according to a partnership agreement, which can help prevent disputes between the partners in the future. This agreement typically governs the particulars of the partnerships, including who will make decisions, how to divide profits and losses among the partners, what happens in the case of a disagreement, and procedures for dissolving the partnership.
4. Sole Proprietorships
In sole proprietorships, individuals set up and operate their own businesses. These individuals direct all operations, receive all profits, and are liable for all debts of the company, making it the simplest form of business. The person and the business are one and the same. They claim income from their businesses on their personal income tax returns. Although many sole proprietors simply use their own names as the names of their companies, if owners want their companies to use names that are different than their own names, they must file the appropriate paperwork. In that case, the sole proprietor would need to file a Fictitious Business Name Statement with the county in which the company operates.
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