Small or Home-based Business Ownership Options: Choosing the Right Legal Entity for Your Small Business

When starting a business of any size, it is important to determine which legal business structure is best. For small businesses, especially a home-based business, this step may be considered unnecessary or simply may be overlooked. The type of entity chosen, however, has very specific tax consequences and legal ramifications. Do not leave this decision to chance. Research the options available and choose the entity that best fits the type of business and the parties involved.

Sole Proprietor – A Simple Form of Business Ownership

A sole proprietorship is a very common, very simple form of business. Although usually operated by an individual, a married couple may also conduct business as a sole proprietor. For tax and liability purposes, a sole proprietorship is legally inseparable from the owner. This form has many advantages in that it is easy and inexpensive to set up and federal income taxes are simple to report on a Schedule C form.

The disadvantages to operating as a sole proprietor stem from the primary advantages. Due to the simplicity of the structure, a sole proprietorship offers no protection to the owner from taxes or liability. All of a sole proprietor’s personal assets, not just the assets of the business, are potentially at risk should creditors come calling.

General Partnership – A Simple Business Structure for Multiple Owners

When two or more people elect to conduct business together, a general partnership is a relatively easy form of business to set up. Forming a partnership, especially when only two individuals are involved, is often done through a verbal agreement but it is important to create a valid, written partnership agreement as soon as possible.

A partnership agreement should include how ownership is shared, the time commitment and financial investment expected from each partner, how decisions will be made and disputes resolved, how profits will be divided, and how new partners may enter or existing partners may exit. It should also clearly state what action will be taken in the event of death or disability of a partner and provide for other contingencies, such as dissolution, as well.

As with a sole proprietorship, all personal assets of the partners involved in a general partnership are potentially at risk to satisfy taxes or other liabilities. When considering a partnership, bear in mind that each partner is liable for the actions of all the partners. For federal income tax reporting purposes, the partnership files an informational return and the income allocated to each partner is then included on each partner’s tax return.

Other forms of partnership that are not covered here include a Limited Partnership, where liability is limited to the extent of the partner’s investment, and a Joint Venture, where the partnership is formed for a specific time period or project only. Both of these business entities are more complex to form than a General Partnership and require adherence to certain formalities.

Corporation – A Separate Business Entity

Held by shareholders and run by a board of directors, a corporation is a separate legal entity chartered by a state. Set up as a nonprofit or for profit venture, a C Corporation is complex and expensive compared to other business forms but generally shields shareholders from liability. C Corporations are stringently regulated and taxes are paid on profits by the corporation and then again when distributed to shareholders.

An S Corporation provides the asset protection advantages of a C Corporation but is taxed in the same way as a partnership. Taxes on profits are paid by the shareholders only; the corporation itself pays no tax separately. As with a C Corporation, an S Corporation is owned by shareholders, run by a board of directors and subject to regulation.

Limited Liability Company (LLC) – A Flexible Business Structure

Combining the protection from liability advantages of a corporation with the tax advantages of a sole proprietorship or partnership, a Limited Liability Company (LLC) provides a flexibility that may be especially attractive to small business. Rather than stockholders, the owners of an LLC are members who manage the company or appoint others to do so. In addition, an LLC may choose to be taxed like a corporation but will still not be bound by corporate formalities.

Choose Your Business Structure Wisely

When starting a business, it is important to choose the structure carefully. Each type of entity comes with a specific set of restrictions, as well as legal and tax ramifications. While a sole proprietorship can often be set up without assistance, it is usually best to consult an attorney when creating a partnership agreement or contemplating a corporation or LLC. Thoroughly discuss the pros and cons of each possibility before choosing a structure for any business.

There are a variety of online resources to assist any budding entrepreneur. For more information on starting a small business, start with the Small Business Administration. For tax specific information, get answers straight from the IRS website.

Start a Successful Small Business: Business Advice is a Critical Component in Starting a Business

People start up small business enterprises for a wide variety of reasons and with an equally wide range of personal motivators. Regardless of the reasons and motivations behind any small business startup, setting up a new, small business venture, is a personally dangerous endeavour, especially if sound business advice is not sought, and then acted upon.

Whilst many who do start small business enterprises go in with their eyes wide open, based upon;

  • successful previous business experience,
  • extensive knowledge of the nature of the small business environment,
  • a good understanding of the capital requirements of a small business,
  • a clear understanding of the market in which they intend to compete, and
  • the possession of appropriate skill sets to run and operate a small business,others unfortunately, tend to go in blind.

Major Causes of Small Business Failure in Early Years

Four common causes of small business failure in the startup phase are;

  • Ignorance of the complexities of owning and operating a small business,
  • unrealistic views of the competitive nature of the small business environment,
  • a lack of perception of the myriad of skill sets that are necessary to successfully operate a small business, and
  • insufficient understanding of the capital requirement of supporting a small business until it experiences positive cash flows.

All of these reasons for failure are preventable, and can either be overcome with appropriate business advice and ongoing support, or the understanding of these reasons may assist in the making of a wise decision that perhaps, the risks associated with a particular individual starting a small business, are unacceptably high, and the individual will thereby avoid making a costly mistake.

Business Advice is a Critical Component of a Small Business Startup

In a majority of instances the decision to start up a small business is also a decision which places the financial future of the individual(s) involved, fairly and squarely on the table. Often the decision is one of necessity, or last resort, without careful consideration of the consequences to those concerned, if the small business fails.

Regardless of the reasons and motivation behind the decision to become a small business owner, any potential small business owner takes an immense risk in going it alone, without seeking appropriate business advice. The types of advice that should be sought before any decision is made, include;

  • Legal advice on the appropriate structures to put in place for the proposed business,
  • Accounting advice on taxation implications and record keeping requirements,
  • Financial advice on minimum funding requirements and appropriate sources of funds,
  • Management advice on planning and skill sets required to operate the proposed business, and
  • Marketing advice on the level of demand for the product or service offering and appropriate marketing methods for the target market.

The fact that much of the necessary advice is freely available, and to a certain extent actually free to the individual(s) seeking the advice, means that there really is no excuse for anyone not to take advantage of what is on offer, and use the information available, to give their new small business venture the greatest chance of avoiding the pitfalls, which cause many startup failures.

Sources of Business Advice

Intending small business proprietors can seek business advice from a multitude of sources including;

  • National, State and Local Government Business Advisory Bodies,
  • Local Chambers of Commerce,
  • Not for Profit Mentoring Organisations,
  • Friends and family already operating successful businesses,
  • Banking and other business specific Service Provider websites,
  • Education Institutions,
  • Legal Practitioners,
  • Accounting and finance professionals, and
  • Management and Business Consultants

It is important to seek advice from more than one source, and carefully evaluate the advice received, before rushing to implement any such advice. Acting in this manner will ensure that the full benefits of appropriate advice are gained.

Benefits of Seeking Business Advice Before Starting a Small Business

The are numerous benefits available to an intending small business owner, who seeks sound business advice, before embarking on the challenging path to starting a small business. The key benefits include;

  • Ensuring that the business opportunity is a real opportunity and the right opportunity for the market in which the business will operate,
  • Ensuring that the proposed business structure provides the right level of personal protection,
  • Ensuring that sufficient financial resources are available to get the business through its start up phase and past the break even point,
  • Ensuring that all legislative, regulatory and governance requirements are met and a clear understanding of what is required on an ongoing basis is understood,
  • Ensuring that any deficiencies in management skills are clearly identified and a plan for overcoming these before the business commences are developed, and
  • Ensuring that family and other social support mechanisms are strong enough to assist the business owner to survive the challenges inherent in starting a small business in a competitive environment.

Starting a new small business without seeking appropriate business advice is akin to gambling your life on the toss of a coin. Given the clear benefits of seeking advice on how to start a business, it is almost recklessness to proceed otherwise, as any business failure will impact severely on all directly concerned, and will probably also impact negatively on others, less directly concerned.

Small Business Continuity Disaster Recovery Plan Templates

A small business disaster can take many forms. Natural events, such as a fire or flood, can wipe out all equipment, while a virus or theft can result in data loss or other problems. Planning ahead with a disaster recovery plan template helps small business owners maintain continuity in any emergency.

Business Continuity & Disaster Recovery

For business continuity, disaster recovery planning is critical. With this disaster recovery plan template from IBM, businesses can make sure that all of the most important aspects of a data recovery plan are implemented before disaster strikes.

  • Data Recovery Personnel Lists – For emergency data recovery, maintain a list of data processing personnel. The list should contain names, positions and contact information, to allow administrators to call in critical personnel in the event of a disaster.
  • Emergency Data Recovery from Critical Applications – Maintain a list of applications and software that run on company computers, and the level of importance of each type of software.
  • Computer Hardware Inventory – This list should contain a full list of of all computer hardware on-hand. This list allows business owners to quickly replace equipment after a total loss or determine the value of losses for insurance purposes.

Backup for Disaster Recovery

Backup all software programs regularly to ensure a timely disaster recovery process. It may seem tempting to backup files, then secure the backups in a filing cabinet or in a desk drawer, but this does not protect the files in the event of a natural disaster. All company files should be stored both locally and remotely, to facilitate a swift restoral of business.

Physical backup medium, such as a data CD or a thumb drive are adequate for small backups. Online backup services can also provide a safe and reliable place to store business data.

Small Business Disaster Recovery Plan

After filling out the small business disaster recovery plan template, a business owner will have a comprehensive list of software and hardware, lists of emergency contacts and action plans, and a clear idea of the best and fastest way to restore operations after a disaster. Perform tests of the disaster recovery plan at least quarterly, and update the plan information whenever there is a change in personnel, software or hardware. The use of a detailed and thoroughly researched plan for recovery after a disaster or emergency is essential to the swift restoral of business services.