Once you have decided to start a business, you must decide what type of
business entity to use. There are many legal and tax considerations, which will
enter into a sound decision. These legal considerations can become very involved
and it is advised that you consult an attorney to help you determine the
appropriate structure.
There are five principle forms of business structures: the Proprietorship,
the Partnership, the Corporation, the Subchapter S Corporation, and the Limited
Liability Company (LLC). The decision should be based on your specific
circumstances, goals and needs. These structures, along with their advantages
and disadvantages, are listed below:
A sole proprietorship is an extension of the individual, and income is
reported on the individual tax return using the individual’s social security
number.
Effective January 1, 2001, the “Alabama Partnership Act” was repealed and
replaced with the 1996 “Uniform Partnership Act” (Covered in Alabama Code Title
10, Chapter 8A). The “Alabama Limited Partnership Act of 1997” may be found at
Title 10-2B, Code of Alabama, 1975, and the “Limited Liability Company Act” is
located at Title 10-12.
Corporations are covered in Title 10-2, Code of Alabama, 1975, and Title 26
of the U.S. Code and Title 26 of the Code of Federal Regulations.
The Sole Proprietorship
The sole proprietorship is usually defined as business owned and
operated by one person. To establish a sole proprietorship, you need only obtain
necessary licenses and begin operation.
Advantages
- Ease of formation
- Sole ownership of profits
- One owner has control and decision making power
- Flexibility in day-to-day management
- Relative freedom from government intervention
Disadvantages
- Unlimited liability – this extends to all of the proprietor’s assets
including the home and car, but may be lessened by proper insurance coverage
- Unstable business life – the business may be terminated upon the death of
the owner
- Less available capital
- Difficulty in obtaining long-term financing
- Relatively limited viewpoint and experience
The Partnership
The Uniform Partnership Act, adopted by many states, defines a
partnership as “an association of two or more persons to carry on as co-owners
of a business for profit.” Though not specifically required by the Act, written
Articles of Partnership are customarily executed. These articles outline the
contribution by the partners into the business (whether financial, material, or
managerial) and generally delineate the roles of the partners in the business
relationship.
Some of the characteristics that distinguish a partnership from other forms
of business organizations are the limited life of a partnership, unlimited
liability of at least one partner, co-ownership of the assets, sharing of
managerial duties and a sharing of the profits.
Advantages
- East of formation
- Direct rewards
- Growth and performance facilitated
- Flexibility in decision-making
- Relative freedom from governmental control and special taxation
Disadvantages
- Unlimited liability of at least one partner
- Unstable life – elimination of either partner constitutes automatic
dissolution of the partnership
- Relative difficulty in obtaining large sums of capital
- Firm bound by the acts of just one partner as agent
- Difficulty of disposing of partnership interest
Limited Liability Companies and Limited Liability Partnerships-LLC’s
and LLP’s
For business entities formed as LLC’s or LLP’s there is a beneficial
tax status and limited liability of all its members. It is treated like a
corporation for limited liability purposes, but for federal tax purposes it is
treated as a partnership. A summary of the features of the LLC and LLP is
available on-line at www.asbdc.org//llc.htm
The Corporation
The corporation is by far the most complex of the business
structures. A corporation is a distinct legal entity. That is, it is separate
from the individuals who own it.
A corporation is formed by the authority of a state government. Corporations,
which do business in more than one state, must comply with federal laws
regarding interstate commerce as well as with the state laws, which may vary
considerably.
The procedure ordinarily required to form a corporation begins with a
subscription for capital stock must be taken and a tentative organization
created. Then, approval must be obtained from the Secretary of State in the
state in which the corporation is to be formed. This approval is in the form of
a charter for the corporation, stating the limitations of the particular
enterprise.
Advantages
- Limitations of the stockholders’ liability to a fixed amount of
investment
- Ownership is readily transferable
- Separate legal existence
- Stability and relative permanence of existence
- Relative ease of securing capital
- Delegated authority
- The ability to draw on the expertise and skills of many
Disadvantages
- Activities are limited by the charter and various laws
- Minority stockholders may be exploited
- Extensive government regulations and required reports
- Less financial incentives for the manager
- Double taxation – income tax on corporate net income (profit) and also on
salaries and dividends
The Subchapter S Corporation
The Subchapter S Corporation is a legal corporation that is afforded
special tax treatment under Subchapter S of the Internal Revenue Code. The
characteristics of the S Corporation are: under state law, S Corporations retain
the normal features of corporations, to include limited liability, but for
federal tax purposes they are treated much like partnerships.
The S Corporation is absolved from payment of taxes; hence the stockholders
report corporate income, loss, deductions and credits on their individual tax
returns. In most all other aspects, the S corporation operates in compliance
with state and federal laws relating to corporations, just as a regular
corporation.
Advantages
- Limited liability of stockholders
- Ownership is readily transferable
- Separate legal existence
- Taxed similar to partnership – profits pass through the corporation
untaxed, but are taxed as individual stockholder income, loss, deductions
and credits
Disadvantages
- Activities are limited by the charter and various laws
- Extensive government regulations and required reports
- No more than 75 stockholders
- S corporation cannot own more than 80% of any other corporation
- Stockholders must be individuals, not entities
- Stockholders must be resident citizens
- Only one class of stock may be issued
- The law prohibits S incorporation for the sole purpose of obtaining
limited liability status
Procedures for Incorporation
The following procedures apply to the formation of an Alabama
(domestic) for –Profit Corporation under Title 10, Code of Alabama 1975, as last
amended.
The proposed name of the corporation must be reserved with the Corporate
Section of the Office of the Secretary of State. If the proposed name is
available, a Certificate of Name Reservation will be issued. This requirement
may be accomplished by writing or calling the Corporate Section at (334)
242-5324. Alabama law requires that the name contain the word ‘corporation’ or
‘incorporated’ or an abbreviation of on such word. Additionally, there is a
$10.00 fee for the certificate, which is collected when the articles of
Incorporation are filed.
After receiving the Certificate of Name Reservation, the Articles of
Incorporation may be filed. The necessary forms can be obtained and additional
questions answered by writing or calling the following office:
State of Alabama
Office of the Secretary of State
Corporate Section
P.O. Box 5616
Montgomery, Alabama 36103-5616
(334) 242-5324
| 
