Question

In this discussion question you will discuss the corporate form of business organization:

What are the advantages and disadvantages of the corporate form of business organization? How does the corporate form of organization compare to sole proprietorships and partnerships? What are the advantages and disadvantages of each? If you were to start a business today, which of these forms of business organization would you chose? What would be the single deciding factor that would help you in your decision? Why?

Answer 1

A corporation is a business entity legally distinct from its owners. A board of directors governs it, with officers managing day-to-day operations. Advantages of a corporation include limited liability for its shareholders, a perpetual existence and ease of transferring ownership interests.

Advantages of forming a corporation:

There are several advantages to becoming a corporation, including the limited personal liability, easy transfer of ownership, business continuity, better access to capital and (depending on the corporation structure) occasional tax benefits. The legal structure of your corporation and the benefits you receive from it will depend on the specific setup of your business.

Personal liability protection

A corporation provides more personal asset liability protection to its owners than any other entity type. For example, if a corporation is sued, the shareholders are not personally responsible for corporate debts or legal obligations – even if the corporation doesn't have enough money in assets for repayment. Personal liability protection is one of the main reasons businesses choose to incorporate.

Business security and perpetuity

Corporation ownership is based on percentage of stock ownership, which offers much more flexibility than other entity types in terms of transferring ownership and perpetuating the business for the long term.

Although specific details regarding transfer of ownership depend on the governing agreement in the bylaws and articles of incorporation, ownership of this entity type is often easy to buy and sell. For example, if an owner wants to leave a company, they can simply sell off their stocks. Similarly, if an owner dies, their ownership stocks can easily transfer to someone else.

Access to capital

Since most corporations sell ownership through publicly traded stock, they can easily raise funds by selling stock. This access to funding is a luxury that other entity types don't have. It is great not only for growing a business, but also for saving a corporation from going bankrupt in times of need.

Tax benefits

Although some corporations (C corporations) are subject to double taxation, other corporation structures (S corporations) have tax benefits, depending on how their income is distributed. For example, S corporations have the luxury of splitting their income between the business and shareholders, allowing it to be taxed at different rates. Any income designated as owner salary will be subject to self-employment tax, whereas the remainder of the business dividends will be taxed at its own level (no self-employment tax).

Disadvantages of corporate:

A corporation is not for everyone, and it could end up costing you more time and money than it's worth. Before becoming a corporation, you should be aware of these potential disadvantages: There is a lengthy application process, you must follow rigid formalities and protocols, it can be expensive, and you may be double taxed (depending on your corporation structure).

Lengthy application process

Filing your articles of incorporation with your secretary of state can be quick, but the overall process of incorporating is often a long one. You will likely have to go through extensive paperwork to properly determine and document the details of the organization and its ownership. For example, Sweeney said you need to draft and maintain corporate bylaws, appoint a board of directors, create a shareholders ownership change agreement, issue stock certificates, and take minutes during meetings.

Rigid formalities, protocols and structure

Alongside the lengthy application process is the amount of time and energy necessary to properly maintain a corporation and adhere to legal requirements. You have to follow many formalities and heavy regulations to maintain your corporation status. For example, you need to follow your bylaws, maintain a board of directors, hold annual meetings, keep board minutes and create annual reports. There are also restrictions on certain corporation types (for example, S-corps can only have up to 100 shareholders, who must all be U.S. citizens).

Double taxation

Most corporations (like C-corps) face double taxation, which means that the business income is taxed at the entity level as well as the shareholder level (based on their percentage of profits earned). The only way around this is to operate as an S corporation. S-corps eliminate this problem by only taxing each shareholder on their individual income, not at the entity level. However, the IRS has been known to pay closer attention to S-corps and even tax them as C-corps if their records fail to meet the legal requirements.  

Expensive

Corporations are expensive to form and operate. It might be easy for established corporations to raise capital by selling shares, but forming and maintaining a corporation can be costly. You will likely need a lot of startup capital to get a corporation running, in addition to paying the filing charges, ongoing fees and larger taxes. When weighing the pros and cons to determine whether a corporation is the right legal structure for your business, consult an attorney and an accountant who are well versed in the implications of creating a corporation.

Comparing Corporations to Sole Proprietorships and Partnerships:

Corporations enjoy many advantages over partnerships and sole proprietorships, but there are also some disadvantages to consider.

Advantages of a corporation versus a sole proprietorship or partnership

Shareholders in a corporation are not liable for corporate debts

This is the most important attribute of a corporation. In a sole proprietorship or a partnership, the owners are personally responsible for business debts. If the assets of the sole proprietorship or partnership cannot satisfy the debt, creditors can go after each owner's personal bank account, house, etc. to make up the difference. On the other hand, if a corporation runs out of funds, its owners are usually not liable.

Please note that under certain circumstances, an individual shareholder may be liable for corporate debts, if, for example, a shareholder personally guarantees a corporate debt. Also, under certain circumstances, a court may determine that justice requires disregarding the corporate form and treating the acts and liabilities of a corporation as the acts and liabilities of the shareholders. This is sometimes referred to as "piercing the corporate veil." Some of these circumstances where a court may decide to pierce the corporate veil include:

If personal funds are intermingled with corporate funds

If a corporation fails to have director and shareholder meetings

If the corporation has minimal capitalization or minimal insurance

If the corporation fails to pay state taxes or otherwise violates state law (like defrauding customers)

Corporations offer self-employment tax savings

Earnings from a sole proprietorship are subject to self-employment taxes, which are currently a combined 13.3% on the first $106,800 of income. With a corporation, only salaries (and not profits) are subject to such taxes. This can save you thousands of dollars per year.

For example, if a sole proprietorship earns $80,000, a 13.3% tax would have to be paid on the entire $80,000. Assume that a corporation also earns $80,000, but $35,000 of that amount is paid in salary, and $45,000 is deemed as profit. In this case, the self-employment tax would not be paid on the $45,000 profit. This saves you over $5,000 per year. Please note, however, that you should pay yourself a reasonable salary.

Corporations have continuous life

Unlike a sole proprietorship or partnership, a corporation does not expire upon the death of its shareholders, directors or officers.

Corporations make raising money easier

A corporation has many avenues to raise capital. It can sell shares of stock and create new types of stock, such as preferred stock, with different voting or profit characteristics. Plus, investors can rest assured knowing they are not personally liable for corporate debts.

Transferring the ownership interests of a corporation is easier

Ownership interests in a corporation may be sold to third parties without disturbing the continued operation of the business. A sole proprietorship or partnership, on the other hand, cannot be sold whole. Instead, each of its assets, licenses and permits must be individually transferred. Plus, new bank accounts and tax identification numbers are required.

Advantages of a sole proprietorship and partnership versus a corporation

Sole proprietorships and partnerships cost less to establish

Corporations cost more to set up and run than a sole proprietorship or partnership. For example, there are the initial formation fees, filing fees and annual state fees. However, these costs are partially offset by lower insurance costs.

However, LegalZoom makes incorporating your business fast and affordable. Learn more about the LegalZoom incorporation process

Sole proprietorships and partnerships have minimal formalities

A corporation can only be created by filing legal documents with the state. In addition, a corporation must adhere to formalities. These include holding director and shareholder meetings, recording corporate minutes and having the board of directors approve major business transactions. If these formalities are not maintained, the shareholders risk losing their personal liability protection. While keeping corporate formalities is not difficult, it can be time-consuming.

On the other hand, a sole proprietorship or partnership can open and operate without any formal organizing or operating procedures - not even a handwritten agreement.

Sole proprietors and partners are not liable for unemployment insurance

A shareholder-employee of a corporation is required to pay unemployment insurance taxes on his or her salary, whereas a sole proprietor or partner is not. Currently, the federal unemployment tax is 6.2% of the first $7,000 of wages paid per year, with a maximum of $434 per employee.

If you pay any required state unemployment tax, you can receive an offset credit of 5.4%. This effectively lowers the federal rate to 0.8% with a maximum of $56.00 per employee per year.

If i were to start a business today, I would choose depending upon the size of my business model, such as if my business model requires huge capital investment then I would choose business corporate form and if my business is mainly related to service sector which doesn't require more capital investment then I would choose sole proprietorship or partnership.

A sole proprietorship is easy to form and gives you complete control of your business. Sole proprietorships can be a good choice for low-risk businesses and owners who want to test their business idea before forming a more formal business,