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January 9, 2014
Small Business Structures: Advantages & Disadvantages
Perhaps the #1 question I get asked is: What type of business structure should I set up? This answer, of course, depends on the
type of business you will be running, number of employees, location, whether you have partners, tax considerations, and so on.
Often, a main concern in selecting a business structure is the owners financial & liability exposure. Unless the form selected
provides limited liability, the owners personal assets are potentially exposed to the claims from business creditors and others
impacted by the business. To be sure, liability insurance may be available to help minimize any exposure, but is usually limited to
a certain amount as defined in the policy limits & restrictions.
In an effort to help you better understand the differences, advantages & disadvantages of the most popular small business
structures, below is an explanation in summary & bullet point form to provide an overview.
Please note: This is not legal advice nor is it a substitution for legal advice. Each State is unique in its rules and
regulations for small business. I am providing this information as a means to help you on the front end, as a means to help
you better understand some of the distinctions between various small business forms. My goal is to provide the framework
so that you better understand and in turn, with the help of your chosen advisors, make a better formation decision for
your business.
SOLE PROPRIETORSHIP
A Sole Proprietorship is a business owned by one individual. No legal formalities are required to start this type of business, and
there are no formalities necessary for its operation.
Advantages:
No formalities required for the organization or its operation, and therefore no organizational costs.
Minimum reporting to governmental entities required.
No qualification process for doing business in other states.
Individual owner makes all of the decisions relating to business ownership.
Business profits subject to only one tax at the individual level.
Any losses are included on the individual owners personal income tax return and, therefore can offset other income
(subject to other tax rules).
Conversion of a sole proprietorship to another business structure at a later date is usually a tax-free transaction.
Disadvantages:
Individual owner subject to unlimited liability for obligations & liabilities of the business.
Business is not perpetual. Terminated upon the death or disability of the individual owner.
Availability of obtaining additional capital for growth limited to the resources of the individual owner, thus borrowing
capacity may be limited.
Business profits are taxed as income to the owner and, therefore, subject to self-employment tax as well as income tax.
Summary: Though Sole Proprietorship ownership is attractive because it has no formalities and is seemingly easy to launch, it is
usually not a recommended business structure because it does NOT do anything to limit the individual owners personal liability
& the individual owner is subject to both income and self employment-tax.


12821 East New Market Street Suite 250 Carmel, Indiana 46032 Tel: 317 688 9111 Josh@IndyFranchiseLaw.com IndyFranchiseLaw.com

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LIMITED LIABILITY COMPANY (LLC)
A Limited Liability Company (LLC) is a business structure formed under a state LLC statute that combines the organizational and
operational features of a partnership with the liability limitations of a corporation. Owners of an LLC are called Members. Most
states do not restrict ownership. Thus, individuals, corporations, other LLCs, and foreign entities can all be LLC owners.
Additionally, most states permit single-member LLCs, those with only one owner. Some businesses including, but not limited to,
banks and insurance companies cannot be an LLC. Filing articles of organization with the Secretary of State of the state in which
the LLC is formed forms an LLC. A written operating agreement outlining the roles of the owner and other key provisions is
common but not required. Matters relating to the operation/termination of an LLC not covered in a written operating agreement
are usually controlled by the applicable state LLC statute.
Advantages:
Very few limitations on the number or types of members.
All members enjoy limited liability for the obligations and liabilities of the company.
Management is flexible. All members can be involved in management, or it can be more of a top down structure like a
corporation.
Business profits are subject to only one tax at the individual member level and, therefore, not subject to double taxation
as would be the case if it were a C corporation.
Losses available on members personal income tax returns and therefore can offset other income (subject to other tax
rules).
Special allocations can be made for income tax purposes.
Members may take disproportionate distributions.
An LLC can usually be converted to another business structure in a tax-free transaction.
Disadvantages:
Organizing an LLC requires following certain state mandated formalities both when filing and on an ongoing basis.
Each state charges a fee to set up an LLC.
Qualification is required for doing business in another state.
Regular reporting to state governmental entities is required.
Unless specifically indicated that the LLC is perpetual in operation, it may be terminated upon death, dissolution,
insanity, bankruptcy or withdrawal of a member.
Business profits are taxed as income to the individual members, and therefore may subject the members to self-
employment tax as well.
Transfer of interests may be subject to securities law regulation.
Summary: An LLC is a very popular choice for small business owners. It provides the most flexibility in terms of set-up,
formalities, and ongoing requirements. Additionally, it provides small business owners with liability protection, and combines the
best tax attributes of partnerships and corporations. One key to remember, though, is that once your business attains a certain
level of revenue, you may be subject to self-employment tax. Speak to your tax professional for guidance on this issue.
S CORPORATION
An S Corporation (S corp) is a corporation created under state law that elects to be taxed under Subchapter S of the Internal
Revenue Code. Electing this status results in an S corp being treated as a pass-through entity for federal income tax purposes, the
profits and losses of which pass through to the shareholders rather than being taxed to the corporation. In order to qualify as an S
corp for federal income tax purposes, the corporation must file an election with the IRS (Form 2553).
Advantages:
All of the shareholders have limited liability for the obligations and liabilities of the S corp.
Can have perpetual existence unaffected by the death, dissolution, insanity, or bankruptcy of shareholders.
Centralized management.
Business profits subject to only one tax.
Losses available on the shareholders personal income tax returns.
Sales and redemption of stock usually result in capital gains and not ordinary income.

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Disadvantages:
Much more highly regulated.
Limitation on the number and type of shareholders.
Formalities required for set up and ongoing operation.
Qualification required for doing business in another state.
Regular government reporting required.
Summary: Much like an LLC, an S corp provides owners with liability protection. S corps, however, are more formal in their
structure, formalities, and regulatory requirements. Additionally, there is a limit on the number and type of
shareholders. Notwithstanding this, many small business owners choose this structure for its ease of operation and potential tax
advantages.
GENERAL PARTNERSHIP
A partnership is an association of two or more people operating a business as co-owners for profit. Partnerships can be made up
of individuals or entities. Typically, a partnership is created by written agreement. However, a partnership can be created by oral
agreement or may be implied from the conduct or acts of the partners. In other words, if you act like partners, you likely are
partners. Usually, the Uniform Partnership Act controls matters not covered by a written partnership agreement. The Partnership
Act provides rules for the operation of a partnership and its termination.
Advantages:
Minimal formalities; limited organizational costs.
Combined individual resources and talents.
Authority to act is not limited to just one person.
No qualification requirements for doing business in another state.
Minimal reporting to governmental agencies.
May continue in existence, so long as specified in the partnership agreement, after the death, dissolution, or withdrawal
of a partner.
Business profits only subject to one level of taxation, at the individual partner level.
Business losses available on partners personal income tax return and thus can offset other income (subject to other tax
rules).
Partners may take disproportionate distributions (in accordance with their partnership agreements).
A partnership can be converted to another structure in what is usually a tax-free transaction.
Disadvantages:
Each partner is subject to personal liability for all obligations and liabilities of the business (this is a BIG disadvantage).
Because each partner has the power to act on behalf of the business you should take extra care when determining
selection of partners.
All partners have the right to participate in management, which may make decision-making cumbersome and
complicated.
Unless otherwise provided in the partnership agreement, a partnership business is dissolved upon the death, dissolution,
insanity, bankruptcy or withdrawal of any one partner.
Business profits are taxed as income to the individual partners and, thus, may be subject to self-employment tax as well
as income tax.
Summary: Plain & simply, if you are going into business with another person, you had better take the time to think about and
finalize a partnership agreement. This will not only provide the framework for how you work through disagreements and issues
that may arise in the future, but also assist you on the front-end in anticipating some of these things and better plan for an ongoing
business relationship.



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I sincerely hope this information helps you on your small business journey! I would love your feedback! Did you find this
valuable? Does this help you better understand the distinctions between the various small business forms? Please email me and
share your thoughts. Id love to hear from you! Thank you & Happy 2014!!
Sincerely,

Josh F. Brown
317.688.9111
Josh@IndyFranchiseLaw.com