Start & Run a Coffee Bar. Tom Matzen
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up a partnership means you can share the work, but there is a danger that conflict will occur when two or more people share decision making but have individual dreams and goals. It is common for such arrangements to have problems and dissolve.
Forming a corporation is a third option. The corporation can be owned by just one person (similar to a proprietorship) or two or more people (similar to a partnership).
This section discusses the factors that you and your professional advisers should examine when making a decision about your business structure.
2.1 Sole proprietorship
A sole proprietorship is a business owned and operated by one person. It is operated either in the businessperson’s personal name, or with a trade name. To establish a sole proprietorship, you need only obtain whatever local licenses you require and open your business. It is the simplest form of business structure and operation. We recommend that you operate as a sole proprietorship until your taxable income builds significantly. In most North American jurisdictions, the tax advantages are better for sole proprietorships, but always check with a tax professional in your area.
2.1a Advantages
(a) Ease of formation. There is less formality and few legal restrictions associated with establishing a sole proprietorship. You can start almost immediately. There are no complex forms to complete and no documentation is required between you and any other party. In most jurisdictions, all that is legally necessary to operate as a sole proprietorship is to register the business and obtain the proper licenses. Licenses can be required by various levels of government.
(b) Cost. Registering the business and obtaining licenses involves minimal costs. There are no partnership or corporate agreements required by you because you are the sole owner. Legal fees are reduced accordingly.
(c) Lack of complexity. A sole proprietorship is straightforward. Unlike other forms of business, there is little government control and, accordingly, fewer reports are required to be filed with government agencies and departments. The owner and the business are taxed as one. Business losses can be offset against other income.
(d) Decision-making process. Decisions are made exclusively by the sole owner, who has complete authority and freedom to move. The owner does not have to obtain approval from partners or shareholders or a board of directors.
(e) Sole ownership of profits. The proprietor does not have to share the profits with anyone. The profits generated by the business belong to one person. The sole owner decides how and when the money will come out of the business.
(f) Ease of terminating/sale of business. Apart from legal responsibilities to employees, creditors, and perhaps clients, you can sell the business or close it down at your will. It is also relatively easy to roll a sole proprietorship into a corporation later, if you wish to.
(g) Flexibility. You are able to respond quickly to business needs with day-to-day management decisions governed only by various laws and common sense.
2.1b Disadvantages
(a) Unlimited liability. The sole owner’s personal assets, such as house, property, car, and investments, are liable to be seized if necessary to pay for outstanding debts or liabilities. As mentioned earlier, the proprietor and the business are deemed to be one and the same in law.
(b) Less financing capacity. It is more difficult for a proprietor to borrow money than for a partnership with various partners or a corporation with a number of major shareholders. A lender looking for security and evidence of outside resources can turn to other people connected with the business rather than to just the one person in a proprietorship. A partnership or corporation can give an investor some form of equity position, which is not available in a proprietorship.
(c) Unstable duration of business. The business might be crippled or terminated upon the illness or death of the owner. If there is no one to take over the business, it may have to be sold or liquidated. Such an unplanned action may result in a loss.
(d) Sole decision making. In a partnership or a corporation, there is generally shared decision making or at least input. In a proprietorship, just one person is involved. If that person lacks business ability or experience, poor decision making can cause the business to suffer.
(e) Taxation. At a certain level of profit there are tax disadvantages for the sole proprietor.
(f) Customer perception. Some customers and creditors may have the negative perception that your business is short term if you do not incorporate.
2.2 Partnership
A partnership is usually defined as an association of two or more persons to carry on a business with a view to making a profit. The partnership is created by a contract, either verbal or written, between the individual parties.
The partnership agreement, sometimes called articles of partnership, is absolutely necessary in this kind of business structure. The agreement normally outlines the contribution of each partner in the business, whether financial, material, or managerial. In general, it defines the roles of the partners in the business relationship. There are many different roles for partners, as listed in section 2.2c below.
If you are considering a partnership relationship, you should see your lawyer and accountant after considering the advantages and disadvantages described.
2.2a Advantages
(a) Ease of formation. Legal formalities and expenses in forming a partnership are few compared to incorporating.
(b) Pride of ownership and direct rewards. Pride of ownership generates personal motivation and identification with the business. Profits could be increased if more people have a vested interest in seeing the business do well.
(c) Availability of more capital. A partnership can pool the funds of a number of people compared to a sole owner who has only his or her own resources to draw upon, unless loans are obtained.
(d) Combination of expertise and talent. Two or more partners, by combining their energies and talents, can often be successful where one person alone would fail. This is particularly true if the business demands a variety of talents such as technical knowledge, sales ability, and financial skills. It is important that working partners bring complementary skills to the business, thereby reducing the workload of each partner.
(e) Flexibility. A partnership may be more flexible in the decision-making process than a corporation, but less so than a sole proprietorship.
(f) Relative freedom from government control and special taxation. Compared to a corporation, a partnership is relatively free of restrictions and bureaucratic red tape.
2.2b Disadvantages
(a) Unlimited liability. The major disadvantage of a partnership is the unlimited liability. This unlimited liability is much more serious than in a proprietorship because all the partners are individually and collectively liable for all the debts and liabilities of the partnership. Each partner’s personal assets are liable to be seized, if necessary, to pay for outstanding business debts.
(b) Unstable duration of business. Any change in the partnership automatically ends the legal entity. Changes could include the death of a partner or the admission or withdrawal of a partner. In each case, if the business is to continue a new partnership agreement must be written.
(c) Management of difficulties. As mentioned, when more than one owner assumes responsibility for business management, there is a possibility that differences