Starting a business can be a daunting task but it can be an exciting venture. Deciding the type of a business structure is important in realizing the dream of having your own business.

The best fit for your business should be decided on the scale of the business, amount of capital available, number of participants, and legal and tax regulations.  Many start-up businesses can either be a partnership or a sole proprietorship but the legal status can be changed afterwards.

Types of Business Structures

1. Sole Proprietorship

In this type of a business organization, the founder is the sole owner of the business. He or she is liable for all debts and obligations related to the business, and also takes the full profits of the business.

Pros:

• Perfect when starting a business because it requires minimum working capital.
• Decision-making is fast which makes the business flexible.
• One can deduct losses from personal income, and this lowers the tax bracket of the individual.
• The owner takes all profits.
• Registration and regulation requirements are light compared to other business structures such as corporations.

 

Cons:

• Unlimited liability — The owner accepts all losses, risks, and liabilities in case one is sued.
• Income generated is classified as personal income, which is taxable.
• High risk of closing the business in case of losses, unavailability of the owner or death of the owner.
• Limited business growth due to limitations in capital.

2. Partnerships

Another alternative is entering into a partnership with two or more persons.  There are various types of partnerships, which include:

General Partnerships

This is where a business is co-owned by two or more persons who share all profits and losses. Agreements between partners may differ in such a way that each partner may contribute equal capital share in which profits and losses are shared equally. On the other hand, each member may contribute differing capital shares in which profits and losses may be calculated depending on share capital. In general partnerships, there is an unlimited liability and any profits generated are classified as personal income for tax purposes.

Legal Requirements

Registration of a business name is required including the names and any pertinent information about the partners. Partnerships are registered with the Ministry of Government Services and must be renewed every five years.

Limited Partnerships

Like in the general partnership, all members contribute to the assets of the business. The main difference in a limited partnership is that there may be a combination of general and limited partners. General partners’ liabilities extend to their personal assets, and they are involved in the running of the business (unlimited liability). Limited partners (silent partners) do not participate in the running of the business but contribute to its capital. Liability of limited partners is extended to their share of the capital (limited liability).

Pros:

• Raising capital is easier compared to sole proprietorships because of combined contributions.
• Partners share profits while losses can be deducted from personal income lowering the tax bracket.
• Business continuity is ensured except in dissolution of a partnership.

Cons:

• General partnerships have unlimited liability.
• Decision-making is slow which makes operations inflexible as each member has to weigh on the decision.
• Income generated is classified as personal income, which is taxable.

3. Incorporation

A sole proprietorship or a partnership can be incorporated. Incorporation for business can be done in one’s home province; however, if you plan to run an international business or one that operates in multiple provinces, incorporation is done under the charter of a federal government.

The major limitation of corporations is that they require large amounts of capital, and therefore, it’s better to start up with a sole proprietorship or a partnership and incorporate later. Recommended capital requirement is that a sole proprietorship or a partnership generate at least $50,000 annually.

Requirements:

• A corporation must maintain financial records annually, and audits or reviews can be conducted annually.
• There must be articles of incorporation that is signed by authorized individuals.
• Articles of incorporation can be amended at a fee of $200.00 if required.

Pros:

• Corporations are separate legal entities from owners and hence, limited liability.
• Larger capital contribution compared to sole proprietorships and partnerships.
• Ownership is transferable which ensures business continuity.
• Tax bracket is lower compared to sole proprietorships and partnerships.

Cons:

• Startup capital is a major limitation.
• Heavily regulated compared to partnerships and sole proprietorships.
• Decision-making is slow.
• Possibility of conflicts between shareholders and directors if goals differ.

Deciding the structure of your business is important in ensuring success. In many cases, a start-up business is best suited in a sole proprietorship or partnership business structure.  Ultimately, the decision is up to the individual or individuals that make the decisions for the SMB.

If in doubt, take the time to meet with either your advisor or your lawyer to ask the questions that you answered.  It’s much better to invest in the beginning and get the right answers then having to “undo” what you have done further down the road.

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Until the next time,