Question

Which Entity Should I Choose?

Instructions: Read the following fact pattern. Read the facts presented in the fact pattern below. Combine your understanding of the facts presented along with your knowledge of business entities to select the most suitable business form for the scenario. (Sole proprietor, partnership, LLC, or Corporation). Be sure to discuss the characteristics of the business formation you chose and state why those characteristics make it the best formation for the scenario. Also discuss why all or some of the characteristics of other entities make them less suitable for the situation.

FACT PATTERN Johnny came to you seeking advice on a new business venture that he plans to partake in. Johnny wants to open a new bakery business. Initially, the bakery will only service retail customers that enter the physical building. Johnny has been looking for retail spaces for the bakery. Most of the suitable spaces will require him to enter into a five year commercial lease.

If successful, Johnny would like to expand the bakery business to selling wholesale baked goods to grocery stores throughout the country. If the bakery business is able to expand like he hopes, he would want to add partners and investors to assist him with the growth—both management-wise and monetarily.

Johnny is not new to food industry. In fact, he currently has two successful restaurants that have been very lucrative for him. His third restaurant did so well that he decided to sell it in order to provide him with more time and the funds to start his bakery. The other two restaurants are still in operation. Johnny is still the owner with no intentions of changing that. Because Johnny already owns two restaurants, he needs lots of flexibilities in his business. Johnny has always been a “doer” and does not like to go through red tape in order to get things done. He runs his businesses in this freeform way as well.

Johnny wants the bakery finances to be separate from his other restaurants. He is also weary of losing the lucrative restaurants due to mistakes made in the bakery. He plans to get insurance but he still worries that a mistake in the bakery could ruin his culinary empire.

If Johnny’s timeline for success is accurate, he hopes to be wholesaling his fine baked goods within three years. At the five year mark he plans to aggressively open additional stores—either owned by him or through franchise agreements. By year seven, he will liquidate a large portion of his ownership in the bakery in order to diversify his holdings.

Help Johnny decide which business formation is best for he and his business.

Answer 1

Types of Business Entities:

There are four types of business entities which will depend on three primary factors i.e. Liability, taxation, and record-keeping.

• A Sole Proprietorship: it offers complete managerial control to the owner. In this, the person, who owns the business, is personally responsible for its debt.
• A partnership: In a business enterprise when two or more person are engaged for profit and agree to share the profits or losses of the business.
• A corporation: It is a legal entity that handles the responsibilities of the organization. A corporation is owned by its shareholders, managed by its board of directors, who in turn appoint the corporate officers.
• The limited liability company(LLC): known as a hybrid form of partnership, which allows the owner to take advantage of the benefits of both the corporation and the partnership.

According to the given Fact Pattern, the most suitable business entity for johnny bakery will be the Limited Liability Company(LLC). LLC will offer liability protection to Johnny for its bakery debts and liabilities. It combines the liability protection of a corporation with the tax treatment and ease of administration of a partnership without the corporation's burdensome formalities. LLC is a known popular business form with a business person operating smaller companies.

Advantages of LLC:

• Limited liability
• Tax simplicity
• Flexible management
• Flexible distribution

Flexibility in LLC refer to,

• LLC can choose to ignore formalities altogether like membership meeting,
• LLC can be managed like a corporation or partnership,
• LLC management can elect to be taxed either as partnerships or as corporations.

Sole Proprietorship: Drawbacks

• The owner cannot raise capital by selling an interest
• He will subject to unlimited liabilities e.g. debt and losses, which means if johnny bakery business runs into financial trouble, credators can bring lawsuits against him.

Partnership: Drawbacks

• The owner is subject to unlimited liability for debt, losses, and liabilities of the business
• Owner tend to bear responsibility for the action of another partner
• A poorly organized partnership may lead to disputes among owners.

Corporation:Drawbacks

• Formed under the laws of each state with their own set of regulation. So, a corporation must follow more complex rules and regulations, it requires more accounting and tax preparation services.
• The corporation pays a double tax on the business earning.