Business Structure

Business and MBA students often have to write research papers on business structures and how organizations are structured for tax and legal purposes. Your research paper will have to focus on one of the following most common business structures:

• Sole Proprietorships
• Partnerships
• Corporations

The nature of the business structure is an important decision for start-up firms because it has significant liability and tax considerations for the future of the firm. The law in the United States provides for a number of business structures that range from the sole proprietorship to the corporation. As a result, the law operates to define the relationships between the parties in a commercial or non-profit enterprise and with outside entities based on the type of business structure chosen by the organization.

Business Structures and Liabilities

These defined relationships have an impact on the owners of an organization by outlining their respective shares of the profits of the company, their liabilities toward creditors, and their respective rights and duties in the event of the dissolution of the business. As a result, the structure of the company is an important consideration for the partitioning of assets to protect the owners from creditors. In practice, the structure of the organization also helps to define the participants in the decision-making process of the business, which in turn impacts the way in which the organization conducts its business.

The sole proprietorship is the least complex form of business structure, with all assets owned by a single individual and all liabilities accruing to the owner. The sole proprietorship is not a separate legal entity under the law, and is considered the activity of the individual that owns the business. This type of business structure is best suited for a small business operation that is not capital intensive and faces minimal liability issues that can be covered through the use of insurance. Examples of activities that are suited for sole proprietorships are home retail and service businesses and relatively small retail outlets that do not sell goods or services that can lead to high liability in the event that they cause damages to the customer.

The primary advantage of the sole proprietorship is the simplicity of organization and operation, which places all decision-making capability under the control of a single individual. There are minimal initial organizational costs, which often involve only the registration of a business name, obtaining a sales tax permit and in some locations a business permit. Tax issues and preparation are relatively simple, with profits and losses accruing to proprietors as part of their personal income. This business structure allows the sole proprietor to engage employees and operate in all respects as a complex business entity.

Business Structures and Sole Proprieties

The primary disadvantage of the sole proprietorship, however, lies in liability. The owner is solely and fully responsible for all debts of the organization, which can include the owner's personal assets in the event that the business cannot satisfy its obligations to creditors. This means that it is possible for the owner to face personal bankruptcy if the business falls into significant debt. As a result, a single individual considering using the sole proprietorship for a business structure in a start-up should carefully consider the potential liability issues involved with the type of business activity before settling on this type of structure.

When two or more individuals are considering a business start up, it is common for them to form a partnership. The partnership is not a separate legal entity under the law, but must register with the federal government for tax purposes and with some states in order to secure the business name. A partnership also often uses a formal partnership agreement to define the relationships between the partners, their respective shares of ownership, and the procedure to be followed in the event that one or more partners withdraws from the partnership resulting in dissolution. If no formal agreement is entered into, all states have general laws that create a generalized partnership agreement that is assumed to exist between the partners. In many respects, the general partnership, which is also termed the partnership at will, is similar to the sole proprietorship with several individuals engaged in a collaborative business activity.

The primary advantage of the partnership is that it allows several individual to combine their efforts and resources to achieve a common business goal. Because the partnership is not considered a separate business entity, the profits flow through the partnership to the individual partners based on the agreed upon percentages of ownership. As with the sole proprietorship, however, liability also flows through the partnership to the individual partners. This means that the partners remain personally liable for the debts and obligations of the partnership. In addition, any partner can act independently to create a debt for the partnership, even if they are expressly forbidden to do so by the partnership agreement. As a result, there remains a high degree of personal liability exposure for individuals involved in a partnership and a high degree of interdependence between the activities of the partners. Although the partnership remains widely used in business, there is growing emphasis on the structural forms that provide a greater degree of liability protection.

A limited partnership is a form of partnership that provides a greater degree of liability protection for some of the partners. In this business structure, the general partner organizes the partnership and makes all relevant business decisions regarding the operation of the company. The limited partners invest in the company and have a partnership share of profits and expenses, but their liability is limited to the amount of their investment. As a result, the personal assets of the limited partners are protected from creditors of the partnership. The general partners remain jointly and severally liable for the obligations of the partnership in the same way that they are in a general partnership. The limited partners, however, have no ability to control the way in which the business is operated and are passive investors (Hansmann & Kraakman, 2000). The profits and losses flow through the partnership to the limited partners, as occurs with the general partnership.

The corporation provides the greatest degree of protection for the personal assets of the owners. A corporation is a separate legal entity recognized under the law, which has the same right and privileges of an individual. They are relatively easy and inexpensive to form, with all states providing regulatory mechanisms to register and oversee corporate operations. Corporations offer a high degree of asset protection for the owners. In the event of bankruptcy of the corporation, creditors can collect debts only from the assets of the corporation, and are unable to attach the personal assets of the shareholders. In effect, the liability of the owners of a corporation is limited to the amount of their investment. There are certain exceptions to this as the result of court decisions, however, which permit creditors who have been injured through the negligence or willful misconduct of the corporation to pursue their claims against the personal assets of the individual working for the corporation who actually caused the injury. This type of situation is often covered by umbrella liability insurance that is secured by the corporation to protect its employees.