Company, Partnership, or Corporation
Posted by Brian Jackson on
Company, Partnership, or Corporation - What is the difference?
The article presented here today is not meant to be an in-depth, full explanation of the various business structures. It is meant to expose the curious or inexperienced entrepreneur to the different aspects of business structures. This article will prime the entrepreneur to think of the different pros and cons of structure, the amount of individuals involved, how new individuals can be added and exit, how businesses can be dissolved, how management is tasked, financials handled, etc..
Financial Liability
There are two primary forms of partnerships, general and limited. General partnerships can be formed without any specific intent of its members. It only requires two people “acting” in a way that would lead others to believe they are operating a business for profit. Partners in a general partnership are personally liable for all contractual obligations or debts entered into by the partnership. A limited partnership has at least one general partner and at least one limited partner. General partners are liable for all of the contractual obligations of the partnership while limited partners are not liable past the extent of their financial contribution.
In a corporation, shareholders are not liable past the extent of their investment. In a company, members’ monetary liability will not extend past their financial contribution. Meaning, if you invest $1,000 in the purchasing of stocks of A corporation, you will not lose or be personally liable for any more than $1,000. If you contribute $1,000 as member of ABC, LLC., you will not be personally liable for more than $1,000 if something goes awry. You are only liable for that $1,000 because you have already contributed it into the organization.
Management – Level of Participation
In a general partnership, full management and agency powers are held by all partners unless otherwise agreed. In a limited partnership, there are two types of partners, limited and general. A general partner in a limited partnership has full management and agency powers. A limited partner may not participate in the management of the business. However, there is a newer business structure called a limited liability partnership, where all partners have the management capacity of a general partner but enjoy the limited liability protection of a limited partner.
A typical corporation utilizes a more centralized management system than partnerships and companies. A shareholder is an owner of a corporation and its ownership interest is acquired in the form of a stock. Shareholders of corporations elect a board of directors to handle the overarching management of the corporation. In other words, the board of directors establish the policies that govern the corporation and are in a supervisory position but they do not manage the everyday operations of the corporation. The board of directors hire officers. Officers such as Chief Executive Officer, Chief Financial Officer or Chief Operations Officer. The corporation’s officers manage the everyday operations of the corporation. Only the shareholders of the corporation are liable for the corporation’s debts, however, they are only liable to the extent of their investment.
A Limited Liability Company is another new form of business structure and is an interesting mix of a partnership and corporation. Company members have full and equal management powers unless otherwise agreed. Usually, an accompanying document utilized with a Limited Liability Company, the ‘Operating Agreement,’ outlines the varying level of powers amongst members and what is needed to approve any sort of company action.
Taxation
For many people looking at different business structures, they want to know how their organization will be taxed. Think of it like this, in the eyes of the law, some organizations are seen as a person, a legal person. Due to that, for the most part, they are taxed just as an individual would be. Other organizations are seen as a mere extension of the person(s) that comprise the organization and thus, the person’s income is increased and their income taxes reflect that increase.
A partnership and typical Limited Liability Company are not taxed as separate persons, they are taxed as an extension of its members or partners. Meaning, each partner or member pays the tax determined by the organization’s information filing. Alternatively, for Limited Liability Companies, its members can decide to operate and be taxed as a corporation, effectively enabling it to keep its management decentralized like a partnership, but would also pay a form of “double taxation.”
A typical corporation is taxed as a separate person, leading to an event known as “double taxation.” The corporation would pay a tax on profits, but also pay shareholders out of the same profits a portion known as a “dividend”. The shareholder’s dividend income would then be taxed accordingly. However, there is a version of a corporation, known as a “closely-held” or “S” corporation that enables shareholders to be taxed like they are partners of a partnership.
Transferability of Ownership Interest
Transferability of ownership interest depends on the structure. The easiest interest to transfer is that of a shareholder of a typical corporation. Every time a stock is bought or sold on a stock market a corporation’s ownership interest is being transferred.
The ownership interest of a general or limited partnership cannot be transferred without the unanimous vote of the other partners. In a company structure, the necessary percentage of votes for the transfer is determined by the operating agreement. In some company situations, ownership interests can be freely transferred, however, it is only the interest or right to be paid a percentage of the company’s profits. It is not the right to participate in the management of the company.
Dissolution
Formal dissolution is not required for every business structure. Depending on your business structure, dissolution of your organization can be simple or complex. The simplest of dissolutions accompanies general partnerships and can be effected upon death or express intent, or in other words, by saying or physically expressing, “I want out.” Dissolution of a corporation depends on the type of corporation. In order to dissolve a typical corporation the board of directors must pass an action, receive shareholder approval, and file a notice of intent with the Secretary of State. Please note that depending on the structure of your business, dissolution is rarely a one step process and often the business must remain active until all debts are taken care of. Dissolution of a company, an LLC in this discussion, is usually determined by the “dissolving events” outlined in the operating agreement. The dissolving events can be one event or several. It could also be as simple as all company members dissociating for a set period of time.