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The 4 Most Popular Types of Business Structures

Explore the most popular business structures for small businesses and find out which is the most tax-efficient legal structure for your business goals.

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A wide variety of small businesses line Mainstreet in Cooperstown, New York.
A wide variety of small businesses line Mainstreet in Cooperstown, N.Y.

What Are the 4 Types of Business Structures?

Small businesses play a vital role in the economy, driving innovation, creating jobs, and contributing to the overall growth and prosperity of a nation. Within the realm of small businesses, there are four distinct business structures that cater to different needs. 

The four most common types of business structures are:

  1. Sole Proprietorship: A sole proprietorship is the simplest form of business structure, where a single individual owns and operates the business. The owner assumes all responsibilities, liabilities, and profits of the business. This structure is easy to set up and offers full control to the owner, but also comes with unlimited personal liability for business debts.
  2. Partnership: A partnership is formed when two or more individuals agree to share the responsibilities, profits, and liabilities of a business. Partnerships can be general partnerships, where all partners have equal responsibility, or limited partnerships, where there are both general partners and limited partners. Partnerships offer shared decision-making and pooling of resources, but partners may also be personally liable for the actions and debts of the business.
  3. Corporation: A corporation is a legal entity separate from its owners (shareholders). It is created through a process of incorporation and is owned by shareholders who elect a board of directors to make decisions on behalf of the corporation. One of the key advantages of a corporation is limited liability, meaning shareholders' personal assets are generally protected from business liabilities. Corporations also have the ability to raise capital by selling shares of stock.
  4. Limited Liability Company (LLC): An LLC is a hybrid structure that combines features of both partnerships and corporations. It provides limited liability to its owners (referred to as members) while offering flexibility in terms of management and taxation. LLCs are relatively easy to set up and maintain, making them a popular choice for small businesses.

Which Types of Businesses Are Best for Taxes?

Determining the best type of business structure for taxes depends on various factors, including the specific circumstances and business goals of the owner. Factors such as liability protection, ownership structure, and long-term business goals should also be taken into account. 

Here are some tips on the tax-relevant points of your preferred legal form:

1. Sole Proprietorship

Sole proprietors report business income and expenses on their personal tax returns using Schedule C (Form 1040). This simplicity can be advantageous for small businesses with low income and expenses. However, sole proprietors are subject to self-employment taxes, which include both the employer and employee portions of Social Security and Medicare taxes.

2. Partnership

Partnerships file an informational tax return (Form 1065) to report the business's income, deductions, gains, and losses. However, the partnership itself does not pay taxes. Instead, profits and losses pass through to the partners, who report them on their individual tax returns. Partners are subject to self-employment taxes on their share of the partnership's earnings.

3. Corporation

C corporations are separate legal entities, filing their own tax returns (Form 1120). This structure allows for potential tax advantages, such as deductible business expenses and the ability to retain profits within the corporation at a potentially lower tax rate. However, corporations are subject to double taxation since profits are taxed at the corporate level, and dividends distributed to shareholders are taxed again on the individual level.

4. Limited Liability Company (LLC)

The tax treatment of an LLC depends on how it elects to be taxed. By default, an LLC with one owner is treated as a sole proprietorship (or disregarded entity), while an LLC with multiple owners is treated as a partnership. Both options offer pass-through taxation, meaning the profits and losses flow through to the owners' individual tax returns. However, an LLC can also choose to be taxed as a corporation, either as a C corporation or an S corporation, providing different tax advantages and considerations.

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