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We want to share some of the insights from that interview here on the blog. This is the second post in this series, and we’ll cover how entrepreneurs should go about choosing what type of business entity is the right fit for their business.
Jim Beach: Of the four big types, we can think of others, but certainly LLCs, partnerships, S corporations and C corporations are the major choices that 95% of us are going to choose, is that correct?
That is correct.
Jim: Can we go through very briefly go through each one and talk about the type of business that is perfectly suited for that? So the partnership, is that a really good choice for our bakery that we’re going to hand down from generation to generation?
Well unfortunately, it really depends. A bakery could be formed as a partnership. Now there are two kinds of partnerships; there are general partnerships and limited partnerships. Generally speaking, no pun intended, a general partnership is not the way to go because there is unlimited liability exposure to all general partners, and in a general partnership, everybody’s a general partner. Whereas in a limited partnership, you can have one general partner (which you have to have) and then you may have multiple limited partners, and there are multiple ways to establish that. A partnership could be used, but that’s not necessarily the most ideal.
The answer to your question Jim really depends on how your particular entity needs to serve you. So what I mean by that is that in a partnership, or let’s contrast that to a corporation, if you have the idea that you want to bring in multiple investors in the future, forming a partnership can be somewhat problematic. Forming a corporation may make it easier for you to sell shares of your company to new investors.
So the answer is not necessarily the kind of business that you want to start; it has more to do with what you want to do with your business, how you want to capitalize it, how you want to ideally have the taxes flow to your individuals, or if you would prefer them to be paid at the entity level. So there’s really not a one-size-fits-all for a business entity structure based on what it is that you’re setting out to do or what kind of business you’re starting.
Jim: OK. So if I want to raise money, I want to go through the whole thing – I want to have the friends and fools, the angels, and then the VCs, which is the best structure?
Most of the time, Venture Capitalists are looking for corporations to invest in, in part because they’re a lot easier to sell, and that’s the reason why it’s much easier to raise capital in the public markets if it’s a C corporation. So generally speaking, they lean towards forming a corporation. LLCs are often used when there are multiple real estate holdings. That’s not always the case, but that’s been the case in recent years, where an LLC would be used when there’s real estate that’s going to be part of the picture. That said though, you can use combinations of S corporations and LLCs, and even partnerships can have a general partner that’s a C corporation or an S corporation or an LLC, so there are lots of different ways to what I call “optimize your business entity structures” for your intended purposes.