Do you have an excellent idea to start a new money-making project? A good idea is already half a job done, but now you need to focus on that not-so-fun part of starting a job on your own. Luckily, our guide will show you all the different types of businesses that are out there, so you can pick the one that suits your idea the best.
Have you always dreamed of becoming an entrepreneur? Being your own boss instead of working for others? Did you know that there are more than 31 million entrepreneurs in the US? If you’re like them, motivated by opportunity and driven by success, don’t let the fear of the unknown stop you from becoming a company owner. There might be a few bumps on the road in the beginning, but we are sure you’ll manage to overcome them.
Why Is It Important to Know What are the Different Types of Businesses?
Every beginning is hard, especially if this is your first time trying to start something and try being an entrepreneur. There are so many unknowns and many important choices and decisions to make that could have a significant impact on your company’s future. One of the essential decisions is choosing the right legal structure, but how many business structure types are there?
Choosing the wrong type of business organization is one of the most common mistakes business owners make. And it is no wonder because if you start your research online, as many would do, you’ll probably get confused about different types of business organizations in no time. Title and questions like “What are the 7 types of Business?” or “What are 5 types of businesses?” Will keep popping up, along with those claiming that there are only three or four sorts. So how many of them are there actually? Let’s try to help you solve that dilemma.
Questions to Ask Yourself Before Selecting the Right Form for Your Company
This decision can’t come out of blue. This essential first step can have long-term effects that will impact the way your corporation operates and run in the future, the way you file taxes, and the number of employees you can have. If possible, you should consult a business expert, or try to answer some of these questions about your future company:
- Are you looking to earn profits, or you’re starting a charity organization?
- Are you looking to have a partner?
- Is your partner going to have an active role, or is it only investing?
- Do you plan to have employees?
- Do you want to file taxes through a personal or business account?
- How much responsibility can you take?
What are the 5 Types of Business? Most Common Business Types Every Entrepreneur Should Know
Wondering what the most common types of business are? According to the IRS, there are five business structures:
- Sole proprietorship
- Limited Liability Companies
- S Corporations
You’ll often find non-profit organizations and cooperative businesses among lists of different types of business, so we will add a few words about them too, but first, let’s focus on the most common types of companies.
Often preferred among holders of smaller and e-commerce businesses, this is the most simple form where only one person is the owner of the company. They are easy to set up, have a nominal cost, and give the holder complete control over everything. However, at the same time, the holder is personally liable for all financial obligations, legal issues, and profits.
A sole proprietorship doesn’t require registration, but depending on your location and products, you might have to obtain some permits and registrations. These tend to vary from one state to another, and it is not even the same for every city, so make sure to check all regulations on time. Many decide to start as sole proprietors, and then as the work gradually grows, they switch to more complex business types if their job demands that.
- It is inexpensive and quick to establish.
- Only a few regulatory requirements.
- All profits are subject to the owner.
- The owner is completely responsible for all debts.
- Banks rarely offer business loans to sole proprietors.
- It is difficult to transfer ownership.
Running a company is a serious task, and we all know that two heads are (usually) better than one. If you have a reliable partner who shares your aspirations and ideas, why not start a partnership? You can share knowledge and consult at any time, and as long as you have the same shared interest in mind, there should be no problems. Two, three, or more partners can act as co-owners.
You’ll have to register your company, give it an official name, and obtain all licenses and documentation your state requires. Don’t forget to complete registration with the IRS for tax purposes. You should strive for your partnerships to be sealed not by a handshake, but by a signed agreement in the presence of an attorney. Keep in mind that although partnerships are somewhat easy to make, they often result in lawsuits between partners.
- In a lot of cases, partnerships aren’t subject to income taxes.
- Partnerships are relatively easy and inexpensive to establish.
- There are only a few ongoing formalities that are mandatory.
- All co-owners are subject to individual responsibility for losses and debts, except in the case of a limited partnership.
- Partners are responsible for the actions of each other.
- Oral agreements and poorly planned partnerships often end up quickly.
Limited Liability Company
LLC is the youngest form of organization in the US. Wyoming was the first state to authorize it in 1977, and Vermont was the last to recognize it in 1996. LLCs are often described as hybrid solutions that represent a blend of corporation and partnership, trying to grasp the best of both worlds: tax regulations and simplified administration of a partnership and liability protection benefits of corporations without too complicated paperwork.
This combination made it very popular, especially among holders of smaller businesses. Every LLC has to have a managing member who is in charge of daily work operations. In case your work grows, it is possible to convert it into a corporation or vice versa. The initial costs of setting up both these forms are somewhat the same, so pick the one that suits your needs better.
- Owners are not personally responsible for debts and losses.
- The holders share profits without double taxation.
- Perks of partnership-style of running businesses.
- In some states, this form is not allowed for certain vocations.
- In most cases, there are some annual fees.
- If you want your business to become public or raise money in the capital markets, this is not the best solution.
The most common type, C corporations, are fully independent businesses constituted of several shareholders who own a certain amount of stocks. C corporations are eligible for tax deduction, and they have fewer limitations than the S corps, but the main drawback is that the profits will be taxed twice. First on a corporate level and then on a personal level. However, that is pretty common actually, and after 2018 reform a lot of the financial burden was taken of C corps because now there are more ways of tax savings.
This is not the best solution if you’re just starting your career as an entrepreneur, or starting an online business. This is for those who already have an established company with several employees, and all they have to do is to obtain specific licenses and permits determined by the state.
- Owners are protected from individual responsibility for debts and losses.
- There is a reliable legal body that guides managers and entrepreneurs.
- It is easier to raise capital through the sale of securities.
- There are certain formalities that need to be followed by shareholders.
- They are somewhat expensive to set up.
- There are mandatory annual fees and filings.
Among a few types of corporations, many C corps transfer to S corps to avoid being double-taxed. S corps allow profits, and even some losses to be transferred directly to the owner’s personal income without falling under corporate tax rates. However, tax rules for S corps are not the same in every state. In fact, some states don’t even recognize S corps. They treat them all as C corps.
In order to obtain S corp status, you must file with the IRS. Unlike C, S corps come with certain limitations. For example, the number of shareholders can’t go over 100, and they all have to have US citizenship. Everything else is pretty much the same as with C corps. If a shareholder sells his shares and leaves, S corp can continue to operate without any significant consequences.
- No double taxation.
- Transfer shares with ease.
- The formation of an S corp is not so straightforward.
- A limited number of shareholders.
- Foreign ownership is prohibited.
Nonprofit and Cooperative Business Organizations
In case you want to start a nonprofit organization; clearly, you’re promoting some charitable or educational services. Nonprofit means that all earned money stays within the organization and has to be spent on the organization’s expenses and programs. There are several categories of nonprofit organizations, and some of them are even exempt from taxes.
Cooperative businesses are operated entirely for the benefit of the members using the services of the organization. Everything that is earned has to be shared among members, and there has to be a membership application, bylaws, and a board of directors.
What Forms of Organization are the Best for Different Types of Small Businesses? LLC Vs. Sole Proprietorship
Before you get familiar with merchant services, after which you’ll set up your merchant account and dive deeper into all the aspects of running a small business, you need a good solid base that will help you expand a business later.
There are two main forms preferred among merchants, LLC and Sole proprietorships, but which one is better? The truth is, they both are very good and can only bring benefits to merchants who are on a journey to develop their small companies. We already went through some of their advantages and disadvantages, so now we would like to briefly summarize their key features.
- LLC – Provides limited liability for members, has to keep records and funds separately. Although there are annual state filings and additional taxes to pay, these companies can choose how to be taxed, and have more market credibility, making it easier for them to obtain financing.
- Sole proprietorships – there’s no state fillings or complicated paperwork, you’re taxed as a self-employed, in general, it is less costly than LLC. All funds can be transferred to your individual account, meaning that legally there is no difference between your business and personal funds. Still, as a holder, you’re personally responsible for all losses and debts.
As you can see, there is one key benefit for those who opt for LLC – member’s responsibility is limited to the amount he invested, so a member is not personally responsible for any debts, which is not the case with sole proprietors. In some states, when registering, you might have to incorporate LLC in the official name, while sole proprietors only have to ensure their name is not already taken.
Now You’re Ready to Embark on Your Entrepreneur Adventure
We hope we helped you get a better idea of different options that are available and that you’ll find the best solution for the general structure of your future organization. Becoming an entrepreneur is exciting, so whether you’re looking to upgrade your small project or are entirely new to this, take this first task seriously. It is not impossible to shift from one form of organization to another, but it will be much easier if you made the right choice at the very beginning.