Chapter 9 Business Entities Wednesday March 19 2014 4 29 PM I INTRODUCTION A Factors in Deciding the Type of Business Entity 1 Ease of operation a b Set up costs Difficulty of operation 2 3 4 5 6 Desired length of existence of the business Personal liability Tax Consequences of the form chosen Ease of sale of the business Ease of Raising Capital B Major Types of Business Organization 1 Historically there were three a Sole Proprietorship Oldest Only can last as long as someone lives Lasts the shortest amount of time When you take in or lose a partner that s a new partnership b Partnership c Corporation a b a b a b Can lasts forever Easiest way to raise capital 2 More recently Limited Liability Company LLC II HISTORICAL BUSINESS ORGANIZATIONS A Sole Proprietorship 1 Oldest and simplest form of business organization a Prostitution You sell yourself that is you the business selling a service 2 Selling the business a Can t sell yourself even though that s what your doing as a prostitute No formalities to forming the sole proprietorship assuming you have the legal right to operate that type of business Legal rights to operate the business can include 3 4 5 6 7 a b c Having certain degree Permits Any other requirements Once created there are no special requirements to operate Business and Owner is the same thing Major disadvantages a Unlimited liability Owner will be personally responsible for the debt a b You are liable If someone sues your business or if your business goes into debt you personally are liable b c Difficulty of selling the business Difficulty in raising capital a b c Very difficult to get investors in this type of business Limit to the amount of credit that the one owner can have Difficult for the owner to borrow money a Often times there is a limit to the amount of credit that one owner can have and this can make it difficult for the owner to borrow money Bank will say what type of collateral are you going to put up d Advantages 8 a You re your own boss if you don t want to work you don t have to 9 Taxes are paid by the owner a Owner claims all of the income and or loss on his or her personal tax forms 10 Most popular form of the historic business entities B Partnership 1 Sole proprietor can raise capital by taking a partner into the business a b Abandons a sole proprietorship Creates a partnership 2 Partnership is when two 2 or more persons carrying on a business for profit a Not legally required to have an agreement to operate a partnership MGMT 211 EXAM 4 Page 1 a b Not legally required to have an agreement to operate a partnership You SHOULD have a detailed written partnership agreement a As detailed as you can possibly make it concerning assets debts liabilities etc 3 4 Management of the partnership is a joint operation between all the partners Joint and Severable Liability a Each partner is liable for their debt and their partner s debt a b c This is what makes partnerships suck Biggest Reason why Partnerships don t work No one likes to pay the debt of someone else People don t get along human nature screws this form over If your partner leaves you just goes missing for two weeks and your business has a big proposal to work on that is coming up you have to make the presentation if your partner went to California and spends 100 000 you have to pay that bill 5 6 Can technically operate with no formalities Should have a written detailed partnership agreement specifying Relation of partners to each other Responsibilities of partners management Duration Splits of profits money Any other vital information necessary to operate the partnership Least favored type of historical business entity Each partner is liable for all of the taxes Selling the Business Who will buy your interest in a partnership with a partner that you can t get along with Why would someone buy your troubles Most popular form for a large business Most business by volume is conducted by corporations Corporation a separate legal entity created by state law a Taxed as a separate legal entity a Double Taxation Any income that is dispersed to the owners and shareholders is also taxed Result is a major disadvantage of the corporate form double taxation 4 Major advantage of corporate form is limited liability for the owners a b Corporation C 7 8 9 1 2 3 Limited to amount of their investment Only to the limit of their investment Makes it must easier to raise capital a Sell Stock d Selling the Business a Just sell securities b a b c d e b c a b c a 5 Severe restrictions on how you must operate major downside a If you don t want to be told what to do the corporate form is not what you should do 6 7 Will discuss corporations in much more detail in next chapter Piercing the Corporate Veil Prove you re not operating as a corporation not having shareholders meetings keeping minutes etc therefore you are just a corporation by name only but not in practice so you are an individual operating a company and people can go after you personally like proprietorship or partnership D 2 Major Differences in Forms 1 Limited Liability a Corporate is the way to go 2 Double Taxation a b c Corporation is a separate legal entity Must pay corporate income tax on income When you send it out to shareholders that counts as ordinary income to shareholders and they too have to pay an income tax III MISCELLANEOUS FORMS OF BUSINESS ENTITIES A Limited Partnership LP 1 2 None of the Historical Business Entities give you limited liability without double taxation so another form is desired One type is a Limited Partnership LP Part Corporation Part Partnership is a Partnership though a Like a corporation 1 2 Created by state statute Requires filing of documents to create a Certificate of Limited Partnership i ii Similar to the filing in a corporation with the appropriate state official Filed by partners MGMT 211 EXAM 4 Page 2 ii Filed by partners b With appropriate state official b Part Partnership and Part Corporation 1 Two classes of partners must have at least one of each a General Partner i Unlimited liability responsible for 1 2 All debts All liabilities ii Fiduciary duty to limited partners b Limited Partner Help to Remember Limited in Speech Partner Silent Partner i ii iii Has limited liability only liable up to the amount of investment Only an investor Can take NO part in management of LP This is what differentiates a Limited Partner and a Shareholder 1 If does become general partner 1 All the Limited Partner has to do is say one word