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There are many types of business entities and we can help you choose the one that fits your needs the best. Your situation, goals, and expectations as a business owner are unique and should be carefully considered. Two important areas to consider are limiting your personal liability to protect your personal assets from creditors and how your tax liability is affected.
The right business entity can preserve the value of your business by avoiding taxes and potential liabilities. Many farm families choose a business entity over a sole proprietorship in order to preserve and protect their family farm. Below is a list of the various types of business entities and their various descriptions.
A sole proprietorship is a common form of business. If you are self-employed and do not have any type of formal business agreement, you are considered a sole proprietorship. A sole proprietor may use a business name, but that name should be registered with the Nebraska Secretary of State to protect it from the use by others. The biggest advantages of being a sole proprietor are simplicity and the complete control one has over the business. The biggest disadvantages are the fact that you are personally liable for any legal actions taken against your business and there is no continuity of life for the business; that is, when you die, your business dies.
A general partnership is where at least two persons choose to enter into business together as partners. The biggest advantage of forming a general partnership is that each partner has management authority and the partners will have the choice of who may join the partnership. The biggest disadvantage of a general partnership is that each partner has unlimited liability for any debts or actions of the partnership, and if a partner dies or otherwise wants out of the partnership, the partnership is automatically dissolved. Income and losses pass through the partnership to the individual partners for purposes of income taxes. A written partnership agreement, or contract among the partners, governs the distribution of income and other aspects of the relationship. If two or more people jointly operate a business, they are considered to be in a partnership, even if there is no written agreement, and the partnership is governed by the partnership laws of the State in which the partners reside or the business is located.
There are varieties of limited partnerships, but the core of a limited partnership means that certain partners are not liable for certain actions and debts of the partnership. Thus, limited partners are given the advantage of limited liability. There must, however, be a general partner that remains liable for all partnership debts and actions. The limited partnership is usually taxed like a general partnership.
Limited Liability Company
Limited liability companies (LLC) were originally created as a replacement for Subchapter S corporations, as another option for businesses to avoid the corporate double tax on profits while retaining a limitation on liability. However, since LLCs may be taxed either as partnerships or as a Subchapter S corporation, LLCs have, for the most part, replaced the traditional Partnership Agreement. LLC owners are referred to as members and their interests are called membership interests. Advantages of an LLC include limited liability for all LLC members and the option to have centralized management or management by members jointly. One disadvantage of an LLC is that membership interests are freely transferable, meaning that one member may sell their interest to any other person, giving the other members a new partner that they do not know. For this reason, most LLCs have a Buy/Sell Agreement that governs the way in which membership interests may be transferred. Farm families use such an agreement to keep the families real estate holdings in the family. For tax purposes, LLC income is not taxed at the organizational level, but instead flows through to its members, who then pay tax based on their own individual rates. An LLC is particularly advantageous to a sole proprietor who may form an LLC for limited liability advantages because a single-member LLC is not required to file its own income tax forms; rather, the income and expenses are included in its single member’s personal tax filing.
C corporations are entities utilized for their management structure, limitation of liability, and the ability to raise large amounts of capital through shareholder investment. The general advantages of a corporate structure include limited liability, centralized management, continuity of life, and the ease at which owners can transfer ownership interests. The major impediment to a corporate structure is double taxation. The C corporation is taxed on its income when earned and the shareholders are taxed upon distributions made to them by the corporation. Thus, the same income is effectively taxed twice. Other disadvantages include the fact that centralized management comes less flexibility in controlling the corporation and the existence of shareholder rights that are heavily regulated. At one time the C corporation was the only organization to provide limited liability and easy transferability of ownership interests, as well as continuity of life. However, with the advent of Subchapter S corporations and Limited Liability Companies, C corporations have fallen out of favor for most small business owners.
S corporations are simply corporations that elect to be taxed as S corporations rather than C corporations. S corporations have all of the same benefits as C corporations. In addition, the gains and losses of the corporation pass through to the shareholders, as in a partnership or LLC; thus, there is only a tax at the shareholder level, not at the corporate level, as in a C corporation. Gains and losses are distributed to the shareholders in proportion to the number of shares held; thus, unlike a partnership, the distribution of income cannot be modified by contract. Buy/Sell agreements are common in S corporations and may be used in the same way as LLCs to preserve the family farm. An S corporation has the advantage over an LLC of a management structure with a President, Secretary, and Treasurer. It works better for a multi-member business or a business wherein some owners are absent from the general day to day operations of the business.