From a legal point of view, there are three common types of businesses: sole proprietorship, partnership and corporation. Each has different and important implications for liability, taxation and succession. A lawyer or accountant can advise you on which is suited to your needs, and undertake the necessary formalities.
Advantages and Disadvantages of Proprietorship
This is the simplest way to set up a business. A sole proprietor is fully responsible for all debts and obligations related to his or her business. A creditor with a claim against a sole proprietor would normally have a right against all of his or her assets, whether business or personal. This is known as unlimited liability.
In a proprietorship, one person performs all the functions required for the successful operation of the business. The proprietor secures the capital, establishes and operates the business, assumes all risks, accepts all profits and losses, and pays all taxes. The proprietor is said to be self-employed.
Low start-up costs
Greatest freedom from regulation
Owner in direct control of decision making
Minimal working capital required
Tax advantages to owner
All profits to owner
Lack of continuity in business organization in absence of owner
Difficulty in raising capital
Advantages and Disadvantages of Partnership
A partnership is an agreement in which two or more persons combine their resources in a business with a view to making a profit. In order to establish the terms of the partnership and to protect partners in the event of a disagreement or dissolution of a partnership, a partnership agreement should be drawn up. Standard form partnership agreements can also be purchased for about $5.00 at stationary stores. Partners share in the profits according to the terms of the agreement.
In a General Partnership, two or more owners share the management of a business, and each is personally liable for all the debts and obligations of the business. This means that each partner is responsible for, and must assume the consequences of, the actions of the other partner(s).
A second type of partnership is a Limited Partnership which involves limited partners who combine only capital. They are not involved in managing the business and cannot be liable for more than the amount of capital they have contributed. This is known as limited liability.
A limited partnership also involves general partners, who are involved in management. They are fully liable for the debts and obligations of the business, but may be entitled to a greater share of the profits.
Ease of formation
Low start-up costs
Additional sources of investment capital
Possible tax advantages
Broader management base
Difficulty in raising additional capital
Hard to find suitable partners
Possible development of conflict between partners
Partners can legally bind each other without prior approval
Lack of continuity
Advantages and Disadvantages of Incorporating
A corporation, also known as a Limited Company, is a legal entity which is separate and distinct from its members (shareholders). Each shareholder has limited liability. A creditor with a claim against the assets of the company would normally have no rights against its shareholders, although in certain circumstances shareholders may be held liable. It is recommended that legal advice be sought. This type of business can be incorporated at either the federal or provincial level.
Ownership interests in a corporation are usually easily changed. Shares may be transferred without affecting the corporations existence or continued operation.
The following characteristics distinguish it from a partnership or proprietorship:
Limited liability – normally no member can be held personally liable for the debts, obligations or acts of the corporation beyond the amount of share capital the members has subscribed; and
Perpetual succession – because the corporation is a separate legal entity, its existence does not depend on the continued membership of any of its members.
Possible tax advantage (if you qualify for a small business tax rate)
Ownership is transferable
Separate legal entity
Easier to raise capital
Most expensive form to organize
Extensive record keeping necessary
Double taxation of dividends
Shareholders may be held legally responsible in certain circumstances
Personal guarantees undermine limited liability advantage