Understanding business formation types in California

California business owners have several options for the structure of their companies, including sole proprietorships, partnerships, LLCs and corporations.

Numerous businesses call the state of California home. In fact, the U.S. Small Business Administration reports there were 3,622,304 small businesses across the state as of 2014. Whether their companies are large or small, business owners must make a variety of important decisions when they are starting out, including choosing what type of business structure to use. To help them make this choice, it may be helpful for them to have a general understanding of the various business formation types.

In general, there are four types of business structures - sole proprietorships, partnerships, limited liability companies and corporations. Each formation has benefits and downsides, and thus, one may be more appropriate for a certain business and situation than another.

What is a sole proprietorship?

Sole proprietorships are companies that are owned and operated by one person alone, meaning there is no separation or difference between the owners and the companies themselves. Being solely responsible for their companies, owners of sole proprietorships do not have to confer with anyone else before making important decisions or changes. Furthermore, they are entitled to all the profits from their companies. However, they are also personally liable for their companies' debts and other losses. Compared to some of the other structuring options, this formation type is easy and cost-efficient to set up.

What is a partnership?

A partnership is a type of business that is owned by to people, or more. When businesses are structured this way, each partner generally contributes in some way to the company. In return they share the business' profits and losses. In order to help avoid some disputes, many partners have partnership agreements drawn up. Although not legally required, these documents are helpful because they typically specify how decisions will be made, how the profits and losses will be divided, and how the partnership may be dissolved, among other related issues.

What is a limited liability company?

Commonly referred to as LLCs, limited liability companies are a sort of hybrid business structure. Through this type of formation, businesses are afforded certain benefits of corporations and partnerships. Each owner, or member, of an LLC is entitled to a portion of the company's profits and losses. However, the members may not be held personally liable from certain actions against their company.

What is a corporation?

Unlike the other business structure options, corporations are their own legal entities, which are not tied to the owners, or shareholders. Consequently, the shareholders are not held legally responsible for any of the business' actions or any of the debts it incurs. The process of establishing a corporation is more involved than the other options, and these types of businesses must be registered with the IRS and pay state and federal taxes.

Seeking legal guidance

The business structure that Californians choose when setting up their companies may profoundly affect their operations, both in the short-term and the long-term. In order to ensure they understand their options, it may benefit business owners to consult with an attorney. A lawyer may help them determine the best course of action given their situations, and ensure they have met the necessary business requirements.