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Legal Forms of Business
Incorporation brings many benefits to any business venture. The business enjoys better protection; its image and reputation is improved as well as the possibility of tax relief. There are many forms of incorporation and so the business must discern the most advantageous formation for them. This paper aims to make out different corporation structures and highlight their merits and demerits based on various scenarios. Among the corporations to be discussed are the Limited Liability Partnership, Limited Liability Company, S Corporation, C Corporation and closed corporation (Spadaccini, 2007).
Sole proprietorship and partnerships
To begin with, a corporation is a separate legal entity. This means that it has its own qualities and features that are not those of its creator. According to Sniffen, it is an extension of its creator, making it a creation of statute and requires corporation laws to remain relevant. A sole proprietorship is the simplest business formation. It derives the name from the fact that it is owned and run by one person who takes all the profits and losses. It is considered simple because there are fewer formalities required to form a sole proprietorship (Cross, 2012). The sole proprietor enjoys less paperwork, fewer records and one tax return. Additionally, the owner enjoys less management hassles since he/she makes all decisions without need to consult. The downside to the sole proprietorships is that it is very hard to woo investors due to liability exposure and lack of stocks. The only people advised to run such businesses are those with exposure to few people and see less likelihood of damaging property. A sole proprietor should also be unable to comply with annual filing among other requirements. Sniffen defines partnership as an association between two or more persons not exceeding 20 to run a business venture (Sniffen 2002). Partnership has a specific objective and is not restricted by formal procedures. General partners are joint partnerships which are regarded as limited partnerships as they comprise general and limited partners. Limited partners take an investor role as opposed to the business management.
This is the oldest corporation model in existence today. Shareholders are part of this business structure and are considered the owners of the venture. It is they that ought to select a board of directors who make the business decisions. They run the company and have an overseer role in the business whose policies must be reported to the attorney general of the state. The best advantage of this kind of corporation is that they are not liable for debts incurred by the corporation and cannot be arraigned in court for any wrongdoing (Investor’s Guide, 2011). Save for limited liability to debt, they enjoy numerous fringe benefits like group term life insurance, accident and tax benefits, as well as benefits for employees like meals and accommodation. There is a lower possibility of the business being audited while some services can be tax exempted. Another advantage is the ability to raise capital for expansion and projects. Any kind of investor is allowed and it is very easy for shareholders to raise money. The most common way to raise money is through stocks issuance. The Investor Guide signals that limitations for a member who injures another person are not covered even if all members share benefits of limited liability. The law requires that C Corporations hold frequent board meetings and regularly report to the relevant authorities. Again, the members’ names must be made public while the double taxation requirement is the major disadvantage. On the federal corporate level for example, the corporations can get taxed 35% of profits before distribution to shareholder. Dividends are therefore not considered a taxable item which clearly indicates double taxation (Howell, 2012)
In a bid to eliminate the double taxation of C Corporations, the IRS sub chapter S through form 2553, created S Corporations. The IRS estimated that there were millions of S Corporation owners in 2007, in the US alone, which doubles the number of C Corporations. In his book Sniffen says that besides the benefit of limited liability and the lack of income tax, profits or loss are felt by all shareholders depending on their stake in the business. In the first year of formation companies are expected to make loss and therefore shared responsibility is seen as the greatest advantage of an S Corporation. Another benefit is the ordinary loss treatment through IRS section 1244. This section shows that the corporation can reduce losses as the stick becomes worthless. It allows a 50% loss reduction for sale or share disposal. The US laws on S Corporations state that only residents should become members and the company cannot be an insurance company. Among the demerits is that it can issue only one type of stock and it cannot be involved in international sales. These restrictions make it very difficult to woo investors. The highly regulated reasonable salary is a disadvantage to the corporation (All Business, 2011).
Limited Liability Companies
This formation is exceedingly popular due to the numerous advantages. It enjoys the protection of limited liability, single taxation, and health insurance premium deductions. The only downside is the requirement to pay self-employment taxes. There may be the irregular tax treatment due to instances where business is conducted on the not so uniform scale. The Limited Liability Center states that if half of the capital and profits is exchanged within a year, the company will terminate for the purposes of federal tax. According to Staub, if more than 35% of losses are allocated to the non-managers, the company could lose its ability to use the cash method of accounting (Staub, 2011).
Basically, anyone who wants to incorporate must take into account tax and liability protection from the formation of choice. Every structure has its merits and demerits which also include some liabilities and restrictions. For easy start up, sole proprietorship is the best though they expose one to the possibility of getting sued which sometimes waters down the advantages. While they enjoy liability protection and tax benefits, corporations are marred by myriads of formalities, annual rates and very high startup capital demands.