I’m starting a starting company, what do I want to be?
This is a very complex question and it involves funding the business, the tax implications, whether or not you have partners or want them in the future, whether or not you expect to be raising money later and what the risk level is for your business.
The type of business you are forming depends on several factors and as usual there are no easy answers. There are four main types of business entities: Sole proprietorships, partnerships, corporations and limited liability companies.
The type of entity a new company will choose to be is dependent on the goals of the company’s’ founders, the type of product or service being provided and the need for capital. A competent business attorney will review all of these factors and more, including tax liability, growth potential of the business and the desires of the founders for flexibility, tax reduction, asset protection and capital funding possibilities.
SOLE PROPRIETORSHIPS A sole proprietorship is the simplest and easiest business to set up and to manage. It is just you hanging out an “Open” sign and waiting for someone to come pay you for your service or product.
The sole proprietorship has many benefits, not the least of which is that you are in charge and do not have to deal with someone else’s opinions, feelings, thoughts and needs.
From a tax perspective it has many great attributes because the business creates many write-offs and will be filing what is called a Schedule C, which is filed with your annual 1040 tax returns.
It is the most common type of business for someone just starting out. You can be a sole proprietor using your own name or a made up name once registered with the county and you do not need to get a separate tax ID number.
PARTNERSHIPS A good partnership is much like a good marriage. Each partner compensates for the other’s weaknesses. In order to find a good partner, one should look for someone who does well what you do not.
The biggest mistake most people make is choosing someone just like themselves, then assuming that because they have so much in common, they will get along well as partners. In practice this doesn’t usually work, as each partner ends up fighting to do the things they do well and avoiding the things they do not do well, and the business suffers.
Ego plays a tremendous role in forming a partnership. You should have a healthy one and be secure in allowing your partner to have their own.
After you have found someone who has what you do not, you should then have a long, clear conversation about what you both expect in regard to the following areas: 1. Short term goals; 2. Long term goals; 3. Daily work schedules; 4. Daily work load expectations; 5. Vacation expectations; 6. Amount of capital each will bring to the partnership; 7. Amount and worth of other assets that each brings; 8. Clear division of responsibilities; 9. Clear understanding of each other’s risk comfort levels; 10. Clear understanding of each other’s business principles; 11. Clear understanding of each other’s business ethics.
All of the above should be put in a written document as part of a partnership agreement. Every partnership should have what is called a buy/sell agreement between partners for estate planning purposes. This is a document that describes what is to happen to the business in the event of disability or death of one of the partners.
A partnership agreement and the supporting documents should be relatively inexpensive, however if you have more partners or special issues it will obviously cost more. (David Pisarra is a partner in the Santa Monica law firm of Pisarra & Grist, he welcomes questions, and (310) 664-9969 or e-mailed at)
Originally published in the Santa Monica Daily Press print edition on March 24, 2003. Read the original PDF.