Building a business is both an exciting and extremely stressful time and selecting the appropriate legal form for your business can be a difficult choice. In California you have five different types of business entities to choose from and forming the correct business entity at the beginning will save you both time and money.
Over the next few months we will be taking an in-depth look at the things you should consider when evaluating the different types of legal entities you could form for your new or existing business. In our business law blog series we will address:
- the different business entities available
- major issues to consider when evaluating different business entities
- liability, personal risk and insurance
- the different corporate forms available
The type of business entity you choose to form will have a direct effect on a number of things including:
- access to revenue
- personal liability
- control of business decisions
To get started, let’s take a look at the basic business entities available in California.
Sole Proprietorship – A Sole Proprietorship is the easiest business entity to form and formation generally does not require the assistance of a business law attorney. Sole proprietorships are only available to individual business owners and do not require the filing of any formal business information. If an individual wishes to do business under his or her own name, he or she should obtain a business license from the city where the business will operate. If the individual wants to do business under a formal business name, he or she must file a fictitious business name statement prior to obtaining the business license. In short, the sole proprietorship has no formalities and the owner has complete management authority.
While sole proprietorships are easy to form, they do not provide any protection against personal liability for the actions of the owner. Because of this lack of protection, many business owners shy away from forming a sole proprietorship.
Partnerships – In California there are three types of partnerships that can be formed.
General Partnership – A general partnership is a business formed by two or more people jointly agreeing to carry on the partnership. Its formation is not dependent on any particular formalities and each partner has equal right to participate in management and control of the business. All of the partners in a general partnership are jointly and severally liable for the business obligations, meaning any of the partners can be held responsible for the wrongdoing of the other partners.
A Statement of Partnership Authority may be filed with the state to register the partnership but registration is not required by law.
Limited Partnership – A limited partnership is a business entity that is comprised of a general partner or partners that manage the business and one or more limited partners that contribute capital to the business. There are many important aspects to this business structure, which we will discuss in our series, but it is important to note that unlike the general partnership, the limited partner is not personally liable for partnership obligations.
In order to form a limited partnership a Certificate of Limited Partnership must be filed with the state.
Limited Liability Partnership (LLP) – The Limited Liability Partnership, which provides limited liability protection to each partner, is designed for specific services:
- Public Accountants
- Land Surveyors
LLPs, like limited partnerships, must be registered with the state. When forming an LLP, the partners should have a formal, written partnership agreement. In order to register an LLP the business owners must file an Application to Register a Limited Liability Partnership.
Limited Liability Company (LLC) – Limited liability companies are a hybrid of a partnership and a corporation in that they combine the pass-through treatment of a partnership with the limited liability of corporate shareholder. Like other business entities, LLCs provide protection from personal liability and are considered the most flexible business entity of the entities previously discussed. LLCs require the filing of the Articles of Organization with the state and additional documents should be prepared and kept onsite at the business including a formal operating agreement.
Corporation – The Corporation is one of the most commonly known business entities. It provides shareholder protection from personally liability for the corporation’s obligations. There are a number of advantages and disadvantages to a corporate structure, and different corporate forms available based on the needs of the business. These issues will be discussed in detail in a business law post later in their series.
As you can see, there are a number of different entities you could form when starting your business. Knowing your options is a great place to start and we hope you will check back soon for our second post in the business law series, Major Issues to Consider When Selecting Your Business Entity.