There are essentially four types of entity choices for businesses: sole proprietorship, partnership, limited liability company (LLC), and corporation.
There are advantages and disadvantages to each.
The sole proprietorship simply means that there is one owner. An owner may file an assumed name or business certificate allowing them to do business as “Joe’s Hot Dogs” or “Sally’s Car Rental” but essentially the business is identified and intertwined with the individual. All of the income belongs to the individual and if the business incurs a debt it becomes the personal debt of the owner.
The corporate format allows an individual or a number of individuals to form an entity which has a separate legal identity and separate tax identity. This form of doing business provides a liability shield and is important for individuals who have a significant amount of personal assets that would be vulnerable to business difficulties or lawsuits.
A sole proprietorship provides complete flexibility. Since it is the individual that is at the core of the business, that individual can make decisions and focus on whatever he or she would like in an instant. However, this complete flexibility comes with a cost. If the business incurs debt or if it gets sued then this becomes the personal obligation of the individual owner and that person’s assets may be available to deal with these issues.
LLC’s are, for purposes of this discussion, essentially the same as corporations. They provide limited liability and ease of ownership for a number of individuals. Both the LLC and the corporation, depending on the circumstances, can engage in elections which allow for the income or loss of the particular business to be reported on an individual’s personal tax return. This provides the benefit of lower tax rates.
A partnership is used by more than one individual but is not often recommended. The reasoning is that, on a very basic level, an individual in a partnership is responsible for the actions of the other partners. This makes the partnership format the least desirable.
You should always speak with someone (an attorney or an accountant) before developing the particular entity to operate your business. These discussions can help you understand what is best for your particular needs.