STEP 1. Choose the type of legal business entity you want to open
You’ve probably thought long and hard about your business idea and which products or services you’d like to take to market. But often, new business owners might not give careful thought to the legal business structure. This is an important consideration before you launch right in to registering your business.
Side Note: If you haven’t fully honed your business idea yet, or are looking for a little more inspiration, we’ve got just a resource just for you. Check out our 300 business ideas to help you develop that killer business idea.
There are various kinds of business structures you can choose from, selecting one type over the other will have an impact on the amount of taxes you will need to pay, administration within the business that you will need to comply with and even the personal liability you may face.
Type of business entities
1. Sole Proprietorship
What is a sole proprietorship?
This is your most common and simplest type of business structure. A sole proprietorship is an informal organisation with a single individual who owns all of the business’s assets and engages in business activities. Usually, a sole proprietorship is operated under the name of the owner.
Why register a sole proprietorship in Texas?
Because it’s the easiest type of business structure to form, it’s understandable why a sole proprietorship is a firm favourite with new business owners. But, before you leap into establishing a sole proprietorship, it is important to consider whether it is the right legal entity for your business, and where you would like to take your business in the future.
The Pros
- Complete managerial control: As the single individual within your business, having a sole proprietorship means you have complete managerial control.
- Easy to form: We’ve mentioned this above, but it bears mentioning again that a sole proprietorship is easy to form because of its informal structure.
- Registration is free in Texas: In Texas, sole proprietors don’t have to pay registration costs.
- No franchise tax: In the state of Texas, a franchise tax is payable by certain types of business structures. In the case of a sole proprietorship, no franchise tax is payable.
- No corporate business taxes: Sole proprietors don’t pay 21% in corporate taxes on business profits. Instead, you would continue to file your personal tax returns while claiming any new income received from the business as pass-through taxes.
The Cons
- Personal liability: As a sole proprietor, you will be personally liable for all of the debts and liabilities as there are no legal distinctions between personal debts and business debts.
- The business life is limited: The life of a business of a sole proprietorship is limited to the life of the business owner. You also can’t transfer your business ownership because you cannot transfer your tax identification number to another person or entity.
- Can’t take out a business loan: Because of being a sole proprietorship in an informal organisation, you won’t be able to take out a business loan. This means that any loans you may need will have to be taken as personal loans. If you default, lenders will be able to go after your personal assets.
- Informal can equate to unprofessional: Because your business isn’t formalised, potential customers may view your business as unprofessional. This may be fine if you really are running it from your garage – but when you’re trying to go after some big deals, it may be to your disadvantage.
2. Partnership
What is a partnership?
There are various kinds of partnerships that you can choose from, which include:
General partnerships: Two or more individuals or businesses partners for purposes of carrying on a business for profit. A separate business entity exists, but creditors can still go after the partners’ personal assets to settle debts. In general partnerships the partners share equally in the assets and liabilities of the business.
Limited partnerships: In a limited partnership the partners don’t have the obligations or duties of general partners. There are one or more general partners and one or more limited partners in the partnership and partners can be individuals, partnerships, corporations, or any other type of legal entity.
Limited liability partnerships: This is a general partnership that has been registered with the Texas Secretary of State. However, the partner’s liability is not the same as a general partnership as partners are not generally individually liable for debts and obligations of the partnership which may have occurred from errors, omissions, negligence etc.
Why register a partnership?
The Pros
- Pooling of skills and capital: Entrepreneurship can be a lonely road to walk alone and partnering with others can help you tap into a wider array of skills and investment when launching a new business.
- Higher chance of success: Partnerships also allow for a higher chance of business success, however this is also contingent on who you have chosen to partner with and whether their skills – and personalities – help the business grow.
- Simple record-keeping: Unlike corporations, there are no requirements for record-keeping in a partnership.
The Cons
- Personal liability: Generally, each partner is personally liable for the debts of the partnership, and each partner can also be personally liable for the actions of the other partners within the business.
- Personal tax return: Unlike a corporation, a partnership must file a tax return every year, then each partner must file a Schedule K-1 with their own personal tax return.
3. LLC (Limited Liability Company)
What is an LLC?
In recent years the Limited Liability Company, or LLC, has been gaining popularity. Simplistically, the LLC as an unincorporated business entity that shares the characteristic of both a corporation and partnership, but the plus side is that it offers greater flexibility than the more traditional business entities.
Why register an LLC in Texas?
As with any business structure, there are both pros and cons of operating an LLC as opposed to those more traditional business entities. In general, because it is seen to have more flexibility as a business structure, the LLC is considered to be more advantageous. Critically however is for you decide whether the pros outweigh the cons before deciding to register this kind of legal entity.
The Pros of an LLC
- Your personal liability: The owners are not held personally liable for the debts of the business.
- LLC registration costs: Although the registration costs for an LLC are the same as for a corporation, they are, however, less than the cost of registering a limited partnership.
- Tax treatment is flexible: If there is only one member in your LLC, you will be taxed as a sole proprietorship. With two or more members, you will be taxed as a partnership.
- Less formalities: Unlike a corporation, there are less formalities for you to abide by, with no requirements to hold annual meetings or keep up-to-date with those laborious meeting minutes.
- Unlimited membership: With an LLC, you can have as many members as you please. There are no restrictions to the number of members.
The Cons of an LLC
- There is a registration cost: Although it is cheaper to register an LLC than a limited partnership – there is still a registration cost to pay, whereas with a sole proprietorship or a general partnership there are no registration costs.
- Finding a registered agent: Unfortunately, you won’t be able to register an LLC on your own – you’ll need to have a registered agent to receive official documents on your behalf. This will mean additional costs for your business.
- Paying franchise taxes: In Texas, LLC’s must pay two kinds of taxes – sales tax and franchise tax. Sole proprietors and general partnerships are not subject to franchise tax, as long as the partners are all natural persons.
4.Corporation
What is a corporation?
Essentially, a corporation is viewed as a legal person with limited liability, perpetual duration and ownership interest that can easily be transferred. The owners are called shareholders and the managing of the business is by directors.
Why register a corporation?
Because a corporation provides shareholders with limited liability from the business’s financial obligations, creditors would be unable to go after your personal assets. A corporation will also protect shareholders from being liable for business partners’ actions.