As an entrepreneur, one of the core business decisions you need to make is what business formation your enterprise will take. The different types of business formations offer you varying degrees of protection, but also come with certain requirements and formalities that need to be followed.
While going into business for yourself does involve a certain level of risk, your liability can be minimized by choosing the right business type. Below is a brief summary of each of the four basic business formation options.
A sole proprietorship is the most informal and simple business formation. The proprietor only needs to register with the state and get a business license. While this option is easy to start, there are no liability protections for the proprietor. This means assets such as your car, home or personal savings are at risk if the business is not successful and creditors are seeking funds. This option works for low risk businesses but is not a good fit for venturesome undertakings.
Similar to sole proprietorships, general partnerships are fairly informal and simple to create but do not provide any asset protection from creditors. The partners need to register the business and secure a state business license. Although not required, a partnership agreement between all parties is strongly recommended. A partnership agreement will outline how the partnership will operate, including information about how business decisions will be handled. The agreement should also specify how profits and losses will be handled and what each partner’s role and responsibilities are.
Limited Liability Company (LLC)
A LLC is another fairly simple business structure, but it offers limited liability protections from creditors for the owner. As the business takes on debt, the business is liable for repaying the losses, not the business owner. An LLC offers the liability protections of a corporation with the pass-through taxation benefits of a sole proprietor ship, making it an attractive option for entrepreneurs. An LLC is not right for every business and some industries, typically financial trades, are not eligible for LLC formation.
Corporations are the most formal business formation type. In a corporation, the business is owned by shareholders, making the corporation a separate entity. The corporation can be held liable for business debts, but the shareholders cannot, offering them protection from creditors. In order to incorporate, a file articles of incorporation with the New Hampshire Secretary of State. The articles outline the basics of the corporation along with the how the business stock will be structured.
There is no best business formation type. The right option for your needs will vary depending on initial expenses, tax consequences and any formal requirements. Before deciding on a formation type, consider your liability protection needs along with long term costs and risks.