Where is the best location for the business? Is that location zoned in a way to allow that type of business? (You can’t open a welding shop just anywhere!) How will the business be financed? How much money will it take to start the business and operate for three to six months? What form of legal structure will be employed? Corporation? Sole proprietorship? Limited Liability Company (LLC)? General Partnership? Limited Partnership? Limited Liability Partnership?
For various reasons and fairly often, friends or family will decide to go into business together. Their reasons may include the reduced individual capital outlay because they will split the business portion of the start-up costs. It could be because they have an exceptional relationship and just want to be in business together. Complementary talents could play into the picture. One person may have a natural sales ability while the other is the organizer and administrator type. Whatever the reason, they need to choose the form of legal structure their business will take.
Because there are two or more owners, they can rule out sole proprietorship. Corporations offer certain taxing advantages but can be bothersome for small businesses due to rules and laws that govern them. That leaves LLC’s and one of the forms of partnerships.
Limited Liability Companies are relatively new and have not been adopted in all 50 states. In a way, even the IRS does not totally recognize LLC’s as a form of business structure. They ask the LLC to choose how it wants to be taxed – as a partnership or corporation. Any confusion is understandable since the LLC is a hybrid of a corporate structure and a partnership structure. LLC’s can be the most inexpensive of the multi-owner structures. It typically lasts ten years before it must be renewed and there are no requirements for errors and omission insurance. (The insurance is still a good idea!)
Partnerships come in various forms. There is the general partnership, limited partnership (LP), limited liability partnership (LLP), and a limited liability limited partnership (LLLP). Liability for the other partners’ actions or the actions of the business as a whole is dependent, in part, on the type of partnership. The general partnership offers no individual protection for a partner’s actions. The other types begin to offer some protection. Limited partnership types (LP, LLP, and LLLP) in the end can be more expensive because they require certain amounts of errors and omissions insurance and must be renewed annually.
In the end, when considering an LLC or a form of partnership, the document that is a must and will govern the business operations is the operating agreement. This document is a binding contract between the owners that stipulates a number of things that are designed to protect and limit the liability of the owners, protect the business, and govern the day to day operations of the business. No partnership or LLC should operate without one.
While, the best advice for choosing your legal structure will be your business attorney, the Angelo State University - Small Business Development Center can assist you in learning more about the right legal structure for your business.
“Business Tips” was written by James Leavelle, Business Development Specialist and Certified Business Advisor of Angelo State University’s Small Business Development Center. For more information on the topic of this article or the services of the ASU · SBDC, contact him at James.Leavelle@angelo.edu.