ECONOMICS AND TRADE | Achieving growth through open markets
12 May 2008
Choosing a Form of Business
Entrepreneurs must select a form of organization to start a business
(The following one-page essay is taken from the U.S. Department of State publication, Principles of Entrepreneurship.)
Choosing a Form of Business
In many countries, entrepreneurs must select a form of organization when they start a small business. The basic forms of organization are sole proprietorships, partnerships, and corporations. Each has advantages and disadvantages. Moreover, the laws and regulations that apply to business owners vary from country to country and by local jurisdiction. Entrepreneurs should consult an attorney or other expert to make sure that they have all the necessary licenses and permits, and are aware of all their legal obligations. In many countries, the local Chamber of Commerce or local business council is also a good source of information.
Sole Proprietorship: In a sole proprietorship, the individual entrepreneur owns the business and is fully responsible for all its debts and legal liabilities. More than 75 percent of all U.S. businesses are sole proprietorships. Examples include writers and consultants, local restaurants and shops, and home-based businesses.
This is the easiest and least expensive form of business to start. In general, an entrepreneur files all required documents and opens a shop. The disadvantage is that there is unlimited personal liability – all personal and business assets owned by the entrepreneur may be at risk if the business goes into debt.
Partnership: A partnership consists of two or more people who share the assets, liabilities, and profits of a business. The greatest advantage comes from shared responsibilities. Partnerships also benefit by having more investors and a greater range of knowledge and skills.
There are two main kinds of partnerships, general partnerships and limited partnerships. In a general partnership, all partners are liable for the acts of all other partners. All also have unlimited personal liability for business debts. In contrast, a limited partnership has at least one general partner who is fully liable plus one or more limited partners who are liable only for the amount of money they invest in the partnership.
The largest disadvantage of any partnership is the potential for disagreements, regardless of how well or how long the partners have known each other.
Experts agree that a partnership agreement drawn up by an experienced lawyer is essential to a successful partnership. It is often used to:
• create a mechanism for resolving disagreements;
• specify each partner's contribution to the partnership;
• divide up management responsibilities; and
• specify what happens if a partner leaves or dies.
Corporations: Corporations are recommended for entrepreneurs who plan to conduct a large-scale enterprise. As a legal entity that has a life separate from its owners, a corporation can sue or be sued, acquire and sell property, and lend money.
Corporations are divided into shares or stocks, which are owned by one, a few, or many people. Ownership is based on the percentage of stock owned. Shareholders are not responsible for the debts of the corporation, unless they have personally guaranteed them. A shareholder's investment is the limit of her liability. Corporations can more easily obtain investment, raise capital by selling stock, and survive a change of ownership. They provide more protection from liability than other forms of business. Their potential for growth is unlimited.
However, corporations are more complex and expensive to set up than other forms of business and are usually subject to a higher level of government regulation.
[Author Jeanne Holden is a free-lance writer with expertise in economic issues. She worked as a writer-editor in the U.S. Information Agency for 17 years.]
