Here's a quick review of the different forms that business organizations may take.
The sole proprietorship, which requires no formalities, no documents to execute, and no separate bank accounts or tax returns, is legally one and the same with the owner and is the simplest way to begin to do business. Depending on the type of business, however, the owner may be required to obtain licenses and permits, or file a certificate of doing business under an assumed name.
Having no separate legal identity from its owner, the sole proprietorship will not shield the owner from any business-related liability. The sole proprietor whose employee injures someone or is injured while on the job, or who incurs debts in the course of operating the business, will be personally liable for those matters, whether or not the business remains in existence. Sole proprietors whose business presents a risk of tort, contract, employment, or other liability, therefore, should strongly consider purchasing insurance.
Incorporating presents the business owner with the alternative of creating a separate legal entity, the corporation, to conduct business as a separate "person" under the law. The corporation may own the business property, employ workers, and earn income, which is taxable at the corporate rate. It can raise money, or capital, for the business, by issuing and selling share of stock, the purchasers of which then become shareholders in the corporation but do not thereby participate directly in the corporation's business. It can also reward its employees by including stock or options to purchase stock at favorable prices as part of their compensation. Additionally, the corporation can incur debts and other obligations and may sue or be sued.
The corporate form presents the business' owners with an excellent means of shielding their personal assets from liability as well as facilitating the business's continuation beyond its original owner's retirement or death. Accompanying the many advantages of organizing a business as a corporation, however, are the expenses and duties of observing corporate formalities. These formalities include making the required filings, including articles of incorporation, with the North Carolina Secretary of State, or with another state in accordance with its corporate statute.
A corporation must also elect officers and directors, who need not own any part of the business, but have a fiduciary duty to act in the best interest of the corporation and its shareholders, hold annual meetings, keep minutes of those meetings, maintain corporate records and bank accounts for corporate business, and make sure it has adequate capital to conduct its business.
Commingling corporate funds with individual funds may result in "piercing the corporate veil" for liability purposes and in the business's income being imputed to its individual operators instead of the corporation. And distributed corporate earnings are taxed twice: once t o the corporation and again to the individual shareholders upon distribution.
Statutory Close Corporation
Existing corporations may elect to become close corporations under the Business Corporations Act. Under this election, the shareholders may dispense with a board of directors and operate the corporation directly.
Professional Service Corporation or Professional Limited Liability Company
Some professional businesses, including law firms, opt to organize as professional service corporations, denoted by letters "PC" and "PLLC" after the business's name. Only professionals licensed by the state, the US Patent Office, or the Internal Revenue Service to practice the professional for which the business is organized may be officers, directors, shareholders, or employees of professional service corporations and professional limited liability companies, except for "ancillary personnel."
Professional service corporations and professional limited liability companies register with the Secretary of State office and members do not have personal liability for any negligent or wrongful acts or misconduct they or personnel under their direct supervision and control commit while rendering services. They are also not liable for the independent acts of their fellow professionals. The corporation or company itself, however, will be liable for any wrongful acts of any of its personnel, just as would any business corporation or company.
Governed by the Uniform Partnership Act, a general partnership is an association of two or more persons, who may be individuals, corporations, or other legal entities, to carry on as co-owners a business for profit.
Partnerships are legal entities and may own property, enter into contracts, and sue or be sued. They must also file tax returns, through partnership income is taxable to the individual partners. Liability in a general partnership is expansive, for both the partnership and each general partner will be personally liable for the wrongful acts or business debts incurred of other partners, partnership employees, and agents of the partnership.
Business partners are, of course, well advised (though not required) to enter into a partnership agreement that sets forth their respective duties and shares of income and expenses. Though all partners owe a fiduciary duty to one another and to the partnership, partnership agreements and private and flexible documents that may be closely tailored to suit the partners' business interests.
Partnerships need file neither the partnership agreement nor any other formal document with any government agency. Like a sole proprietorship, they may be required to file certificates of doing business under an assumed name.
Limited partnerships, while very similar to general partnerships, may better suit the needs of some business operators and investors. Limited partnerships must have at least one limited partner and formed by filing a certificate with the Secretary of State. The general partners are responsible for operating the business just as are general partners in general partnerships and bear personal liability for any debts or judgments incurred by the partnership. The limited partner, however, only is personally liable for its own wrongful acts.
Like shareholders of a corporation, the limited partners typically provide capital for the business and receive a percentage of the business's profits but do not actively participate in it and are liable for the business's debts and losses only to the extent of their investment. The limited partnership's profits are not retained by or taxed to the entity, but are distributed to the partners and taxed at their respective individual rates.
Limited Liability Partnerships
Still another form of partnership is the limited liability partnership (LLP). A partnership may become a limited liability partnership by filing a state of qualification with the Secretary of State. Though similar in many respects to the general partnership, partners in an LLP are not personally liable for the negligence or wrongful acts of other partners.
Limited Liability Company
Governed by North Carolina Limited Liability Company Act, the limited liability company (LLC) blends elements of the corporation and the partnership, making it likewise attractive in the eyes of the majority of business owners. An LLC is created by filing articles of organization, which are similar to articles of incorporation, with the Secretary of State. In many states, including North Carolina, LLCs must file annual reports of the company's name, members, and addresses, with the Secretary thereafter. The annual report fee charged by the North Carolina Secretary of State is $200. Failure to file an annual report and pay the fee usually results in administrative dissolution.
Business owners structuring LLCs may define virtually all aspects of the LLC company's management structure in its operating agreement, which is similar to corporate bylaws or a partnership agreement and is a private document that is not filed with any state agency. Matters to be addressed in the operating agreement include how the LLC will be managed, whether the members will hold periodic meetings, what the members' compensation and rights and responsibilities are toward the LLC and toward each other; and under what circumstances the LLC will be dissolved.
Members are shielded from personal liability for the company's debts to the same extent as shareholders in corporations. The LLC is presumptively treated as a partnership for tax purposes, but may make an election to be taxed as a corporation by filing form 8832 with the IRS or to be taxed as an S corporation by filing form 2553.
Business Entity Comparison Summary
LLC or Inc.? For the start-up or small business today, the LLC is overwhelmingly the preferred choice because of its flexibility, limitation of liability, and reduced formalities.
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