June, 2003
Feature
Inspection News and Views from the American Society of Home Inspectors



Business Structures

SMALL BUSINESS ADMINISTRATION

How you “structure” your business is important for two reasons:
  •  legal purposes
  • tax purposes
What you choose to do depends a lot on how you manage or run your business AND your financing needs. One final consideration is what your expected tax position at the end of the year will be.

Remember: The first structure that you choose may only be temporary. As your business grows, you may want to change your structure. Your business can be classified under one of the following business structures and each has its advantages and disadvantages:
  • Sole proprietorship   
  • Partnerships
  • Corporations   
  • Franchises
SOLE PROPRIETORSHIP

Fact:
You are the business.
Fact: All profits and losses come directly to you.

Characteristics:

  • owned and operated by one person
  • unlimited personal liability
  • most widely used business structure
Advantages:
  • easy to form
  • has the least amount of government intervention
  • very flexible
  • you have complete responsibility and control of the business
  • all income and losses are consolidated on your personal income tax return

Disadvantages:
  • unlimited personal liability
  • the business ends if the owner quits for any reason
  • you have complete responsibility and control of the business
  • you may have limited ability to raise capital
  • you may have fewer resources and talents to draw from

PARTNERSHIP

Fact: A voluntary association of 2 or more people who act as co-owners of the business.

Fact: The partners combine their talents to run the company.

Fact: Always have a partnership agreement drawn up that spells out the rights and
duties of all partners (and their descendants) to help you avoid headaches later on.

Advantages:
  • easy to form
  • flexible
  • limited government intervention
  • may be possible tax advantages since your income is taxed as personal income
  • may benefit from having the combined talents and funding of partners
Disadvantages:
  • unlimited personal liability of at least one partner
  • may be hard to get large sums of money
  • the actions of one partner can make the entire business liable

Some factors needed for a successful working relationship among partners:
  • trust
  • willingness to work together and coordinate roles
  • a strong sense of commitment from all partners
  • frequent, clear communication
CORPORATION

Fact: This is a separate entity formed by filing Articles of Incorporation with your Secretary of State.

Fact: You must file a separate business tax return because you and the business are
legally separate.

Advantages:
  • limited personal liability
  • ownership can be transferred through stock sales
  • unlimited life
  • usually it is easier to obtain money
  • should have a larger pool of talent and expertise
  • gives an impression of credibility to potential and current customers

Disadvantages:
  • your business activity may be restricted by the charter
  • lack of representation of minority stockholders
  • extensive record keeping may be required
  • organizing expenses to become a corporation can be high
  • double taxation
FRANCHISE

Fact:
The right to own and operate this business is provided by the owner/manufacturer to sell their product.

Advantages:
  • training and guidance is available
  • there may be brand name appeal
  • often there is a proven track record
  • financial assistance may be available
Disadvantages:
  • franchise fees
  • franchisor maintains a fair amount of control
  • promises may not be realized
Questions to ask regarding franchises:
  • What is the total investment cost?
  • Are there additional royalties or other hidden costs?
  • What is the franchises performance to date?
  • Is there a franchisee available that you can talk with and determine their satisfaction level?
  • Can the business continue if something happens to the owner?
  • Which legal structure should you choose?
  • Can you get additional monies if needed?
  • Will you be able to get the people you need?
  • Will you be able to work under someone else’s rules?
  • What are the termination clauses if any?
  • Are there sales quotas that must be met?
  • What government requirements do you need to be aware of?

Hire a lawyer familiar with franchises to ensure that you are considering the important issues before making a final decision.

There are two special types of corporations that may be advantageous for smaller companies:

S Corporations
  • limited personal liability
  • pass through income/loss to your personal income
  • more expensive to set up than a sole proprietorship or partnership
  • income is divided among the owners based on their ownership interests
Limited Liability Corporations (LLC)
  • limited personal liability pass through income/loss to your personal income
  • can include more than 35 shareholders
  • profit and loss can be allocated differently than the ownership interests
  • more expensive to set up than a sole proprietorship or partnership.
Nonprofit Corporations
  • usually religious, charitable, or educational organizations
  • most are private in nature
Licenses and other regulatory requirements

The city or county where your business is physically located issues local business licenses. You may need more than one license if your business is located in more than one city. The license fee is based on company sales and the business category.
A Certificate of Occupancy may be required. This is issued by the city or county government and allows the government to enforce zoning laws and make sure that your building meets all of the necessary codes.

The business must be registered with the state. You will need a retail license for your business if you sell a product to a customer. Usually service firms do not need a retail license unless they also sell products to
customers.
Every business must have a Federal Identification Number. If you are a sole proprietor with no employees, you can usually use your social security number.
Environmental issues also need to be addressed (solid waste, air quality, hazardous work, etc.). Find out if you will need an environmental permit.

Contact the following agencies to determine if additional licenses are required:
  • Health Department
  • Occupational Safety and Health Administration (OSHA)
  • Department of Health and Environment Control (DHEC)
Go to the SBA’s Web site at www.sba.gov.