Magazine article The CPA Journal

What Form of Ownership Is Best?

Magazine article The CPA Journal

What Form of Ownership Is Best?

Article excerpt

One of the first major problems in the establishment of a business organization is choosing the best form under which to operate. Undoubtedly, consultants are often called upon for advice on selecting the best form of operation. From the Federal income tax viewpoint, there are six principal forms of business enterprises: sole proprietorship (SP), partnership (P), regular corporation (C), subchapter S corporation (S), limited liability partnership (LLP), and limited liability company (LLC). The selection of the form of business enterprise most advantageous for a particular business requires consideration of the many tax and nontax aspects of each form. Also, many legal, economic, and personal factors are relevant to the choice and should be weighed carefully. Each form of business has traditional characteristics, which may or may not be advantageous in a particular situation. An intelligent choice among the alternatives usually depends on an understanding of their characteristics.

There is no formula or rule that can be used to decide which form should be utilized. Each business type must be given individual attention, and the decision should be made only after giving much consideration to the circumstances surrounding the particular business and its owners.

Sole Proprietorship

The major advantages of the sole proprietorship include

simplicity of organizing and operating the business,

lack of red tape or attorney fees, ability to have sole control of conducting the business, and

simpler government regulations. The major disadvantages include

exposure of personal assets to risks of the business (unlimited liability),

lack of flexibility for obtaining financing,

generally no continuity of existence (limited life), and

possible complexity in transferring ownership.

Partnership

The major advantages of the partnership include

similar advantages as those of the sole partnership except the availability of capital from more than one source and more alternatives available for financing needs (such as borrowing money, seeking additional contributions from the partners, additional capital by the admission of new partners) and

the possibility to mix talents and management skills.

The primary disadvantages includeunlimited personal liability, similar to a sole proprietorship, but each general partner can be held personally liable for the debts incurred in the firm's name by any other partner (mutual agency) as each general partner has personal joint and several liability for the debts of the partnership; limited continuity of existence (at least from a technical standpoint); and under the doctrine of delectus personae, a partner's rights are generally not transferable without the consent of all the partners.

Regular or C Corporation

The most significant advantages of the regular corporation arelimited liability (limited to each shareholder's investment in the corporation's securities),

the ability to attract additional investors when capital is needed,

continuity of existence,

free transferability of interest (in the absence of a stock transfer restriction), and

the ability to obtain financing by selling different types of securities (such as stocks or bonds).

Major disadvantages include

lack of control of business operations by the shareholders (as control is shifted to the board of directors and officers of the corporation);

greater governmental regulation and control in its formation, operation, and dissolution;

significant expenses for incorporating a business;

the possible necessity of formally qualifying to do business in states other than the one where it is incorporated; and

double taxation of any corporate earnings distributed to shareholders in the form of dividends.

S Corporation

Subchapter S of the IRC of 1986 allows for unique treatment of certain corporations for income tax purposes (S corporations were actually initiated in 1958; major rule changes were made in 1982). …

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