Identity Crisis: How to Categorize Your Business’s Legal Entity
March 3, 2017
When it comes to identifying the legal entity of your business, especially at tax time, it’s important to understand what makes you qualify for each category. Not only does each entity serve a different business structure by way of income and profit, each also has their own specification in regards to taxes. In order to avoid error and to understand your business’s financial liability, it’s best to have a full understanding of each category before defining the direction that makes sense for your business specifically. Let’s explore the different legal entities your business can fall under.
Essentially, a sole proprietorship is not technically a legal entity, but more so refers to a business that is solely run by one person. This implies that this person is liable for all debts and expenses related to the business. In terms of specifying a type of business, sole proprietorship is the simplest, but has its advantages. For example, a sole proprietorship has less nominal costs surrounding it, in comparison to other types of ownership, however, the owner’s assets are more vulnerable. For example, should a problem arise in financial liability, the owner’s personal assets could be called into account by a creditor to satisfy any debts, despite the matter being based around the business.
As the name would suggest, a partnership is a business owned by two or more people, each sharing equal profits, losses and liabilities. However, classifying a business as a partnership requires several different legal considerations, as there are different types of partnerships with their own set of regulations. These can include general partnerships, limited partnerships and joint ventures which we have outlined in further detail for you here:
Also known as simply a partnership, a general partnership is an association in which two or more people run a business with the goal of earning profits. In a general partnership, while little formality is involved in its formation, the liability is split equally amongst all those involved.
Another name for a limited partnership is an “LP”, also known as a limited liability company, or “LLC”. This type of business entity is created when two or more partners unite in a business juncture, however, one or more of the partners is only liable to the extent of the amount of money they have invested into the business.
A joint venture, despite its simplistic name, is a commercial enterprise that is jointly run by two or more parties. However, the difference between a joint venture and a general partnership is that in a joint venture, each party involved retains their individual and distinct identities. Without fusing the parties involved into one, each party is responsible for their own liabilities and involvement.
Corporations consist of legal entities which are owned by shareholders. As corporations are much more complex, they are typically used as an entity by larger businesses. They are generally more costly in administrative fees and require more tax and legal work in order to cover all liabilities. However, corporations usually cover this cost by giving the opportunity to sell partial ownership shares through stock options. Despite the initial intricacies of identifying your business as a corporation there are also different classifications, such as C-Corps, S-Corps and Closely Held Corps, all which have specific taxing regulations and specifications to go along with them.
Learning and understanding your business’s legal entity can be a bit of tricky process, but can help to save you from financial liabilities when tax season rolls along. If you have any questions or concerns about your business’s entity and the tax regulations surrounding it, don’t hesitate to contact us at 705-727-6469. Our dedicated team of accredited accountants are always happy to help you better understand your business’s financial responsibilities and liabilities to keep your business on the straight and narrow.