The appropriate organizational structure is critical to all businesses regardless of the nature of the business or number of owners of the business. Choosing the most advantageous form of business entity can achieve tax efficiencies, provide a foundation for control, facilitate raising capital, assist in incentivizing employees and provide ease in transition of ownership and management. In order to accomplish these and other goals, a fundamental understanding of the various types of business entities is essential prior to starting a new business. This article will briefly describe certain advantages and disadvantages with respect to the three most common forms of business entities, partnerships, corporations and limited liability companies.
A partnership is formed by the association of two or more persons that carry on as co-owners of a business for profit regardless of whether the persons intend to form a partnership. A partnership is an entity separate and distinct of its owners and may sue and be sued in the name of the partnership. Property that is acquired by the partnership is property of the partnership and not of the individual partners. One perceived advantage of a partnership is how easily it can be formed by the partners; however, one significant disadvantage is that each partner is an agent of the partnership for the purpose of its business and therefore the partnership is generally liable for any act of a partner. Another significant disadvantage is that generally all partners are jointly and severally liable for the obligations of the partnership.
One way to limit the exposure of a partner with respect to the liability of the partnership’s obligations is for the partners to form a limited partnership under the Mississippi Limited Partnership Act. A limited partnership is formed by filing a certificate of limited partnership with the Mississippi Secretary of State’s office. A limited partnership is different from the partnership described above in that a limited partnership has general partners and limited partners. A limited partner generally is not liable for the obligations of the partnership, but a limited partner is not allowed to participate in the management of the daily affairs of the limited partnership. Under federal tax law, partners in a partnership or a limited partnership have a great deal of flexibility with respect to how profits and losses are allocated and this can be advantage depending on the nature of the business the partnership or limited partnership. Limited partnerships are typically governed by a limited partnership agreement, which sets forth the rights and responsibilities of the general partners and the limited partners.
Another common business form is a corporation. Corporations are governed by the Mississippi Business Corporation Act and are formed by filing articles of incorporation with the Mississippi Secretary of State. Like both partnership forms described above, a corporation is an entity separate and distinct of its owners and may sue and be sued in the name of the corporation. One significant advantage with corporations is that most people are fairly familiar with this form of business organization; and, the ownership of such is typically evidenced by tangible shares of stock. Corporate governance of a corporation is set forth in its bylaws, which outline the rights and responsibilities of the officers, directors and shareholders.
Corporations are allowed to have difference classes of stock and those classes can have dividend preferences and differing voting rights. One potential disadvantage with a corporation is the lack of flexibility with respect to how profits and losses can be allocated amongst the shareholders. Depending on the nature of the business and how the business is capitalized, a corporation may not be the ideal entity for this reason.
Finally, another common business form is the limited liability company. Limited liability companies are governed by the Mississippi Limited Liability Company Act and are formed by filing a certificate of formation with the Mississippi Secretary of State. Limited liability companies have become increasingly popular because of flexibility with respect to management and the distribution of profits and losses, assuming the limited liability company is taxed as a partnership. Limited liability companies are generally governed by a limited liability company agreement or operating agreement, which sets forth the rights and responsibilities of the members and managers.
There are many factors that must be taken into consideration when deciding upon a business form. These are only three examples of the various types of business entities; and, depending on the facts of a particular situation, one business form may be preferable over the others. It is critical that business owners take into consideration all of the issues associated with forming a business relationship, including management, ownership, allocation and profits and losses and distributions of cash and property prior to entering into business. Taking these factors into consideration with the advice of a practitioner in the area of business formation will lead the business owners to the optimum business form for their particular endeavor.
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