In Oklahoma, there are four main categories under which businesses are organized: Corporations, Sole Proprietorships, Partnerships (both general and limited liability), and Limited Liability Companies. Each has its advantages and drawbacks.Corporations are the preferred organization for most businesses. The laws governing corporations are longstanding, and every state has provisions for recognizing a foreign corporation. Corporations can make contracts, sue and/or be sued, own or convey property and are of perpetual duration. Corporate shareholders are free from shareholder liability for the most part. Generally, the money invested by the shareholder for purchase of the shares of stock in the corporation is the limit of their risk in most circumstances. Corporations are run by centralized management in the form of a board of directors which the shareholders elect annually. In order to form a corporation, there are legal documents that must be filed with the Secretary of State.
Although there are several types of corporations, the two most common types are the Sub-chapter “S” and the “C” corporations. The distinction refers to the tax election made for the corporation. Most small corporations make a Sub-chapter “S” election shortly after formation. The purpose of the election is to pass the corporation’s income over to the personal income tax return of the shareholders, thus avoiding double taxation.
A Sole Proprietorship is by far the easiest form of business to form, but has significant disadvantages. All income is attributable to the business owner and the income subjected to self-employment tax. The business does not have to file a separate income tax return; it can be counted as business income on the sole owner’s personal income tax return. The greatest drawback to a Sole Proprietorship is that it offers no protection against the personal liability of the owner. Just as business income and assets are owned directly by the owner, so can the owner’s personal income and assets, to a large extent, be subject to business loss. There are very few protections for a sole proprietor’s personal property against lawsuits, legal actions and loss for those unexpected situations such as accidents.
Partnerships seem to require more planning than other business formations. There must be agreement between two or more parties to form a partnership. A general partnership is subject to the same liabilities as a sole proprietorship. The general partner’s assets, both business and personal, are subject to legal action and business loss, usually jointly and severally with the other general partner(s). A general partner can also be held liable for the actions of his/her partner when acting within the scope of business, as well as the contracts made by the partnership. A Limited Liability Partnership, or LLP, is designed to limit the personal liability of the limited partner. An LLP requires a general partner, and the limited partners are liable only to the extent of their contribution or ownership in the partnership. More legal paperwork and contracts are required to begin an LLP than a Sole Proprietorship. We do not recommend partnerships for our clients except for those businesses with special needs.
Limited Liability Companies or LLCs are a tax driven form of business organization. An LLC allows many of the freedoms and characteristics of a corporation, but it is not considered a corporation for federal tax purposes. Thus, generally speaking an LLC avoids the double taxation that a “C” corporation will pay.