After deciding to start a business (and the particular business to pursue), one of the important issues is the form of business entity that will serve as the vehicle in pursuing the business. You may say that the next important issue is the source of funding, which is correct, but that issue will be discussed much later. Right now, let’s focus on the forms of business.
The choice of the form of business or business organization depends on various factors. In certain business, like banks, the law requires that the business entity must be a corporation. A small business, like your friendly sari-sari store, is better off as a sole proprietorship. The Pinoy Entrepreneur could also shift to another form of business if the circumstances later require that shift.
Also referred to as “single proprietorship,” a sole proprietorship is the most simple form of business and the easiest to register, through the Bureau of Trade Regulation and Consumer Protection (BTRCP) of the Department of Trade and Industry (DTI). It is owned by an individual who has full control/authority of its own and owns all the assets, as well as personally answers all liabilities or losses. The fact that it is run by the individual means that it is highly flexible and the owner retains absolute control over it.
The problem, however, is that a sole proprietor has unlimited liability. Creditors may proceed not only against the assets and property of the business, but also after the personal properties of the owner. In other words, the law basically treats the business and the owner as one and the same. This uniform treatment also has important tax implications. Partnerships and corporations may lessen their tax liability through a myriad of business expenses and other tax avoidance techniques. These tax deductions may not be applicable to a sole proprietorship. Also, the potential growth and reach of a sole proprietorship pale in comparison with that of a corporation.
A partnership consists of two or more persons who bind themselves to contribute money or industry to a common fund, with the intention of dividing the profits among themselves. The most common example of partnerships are professional partnerships, like in the case of law firms and accounting firms. Just like a corporation, it is registered with the Securities and Exchange Commission (SEC).
A partnership, just like a corporation, is a juridical entity, which means that it has a personality distinct and separate from that of its members. A partnership may be general or limited. In a general partnership, the partners have unlimited liability for the debts and obligation of the partnership, pretty much like a sole proprietorship. In a limited partnership, one or more general partners have unlimited liability and the limited partners have liability only up to the amount of their capital contributions. Unlike a corporation, which survives even when a member/stockholder dies or gets out, a partnership is dissolved upon the death of a partner or whenever a partner bolts out.
A corporation is a juridical entity established under the Corporation Code and registered with the SEC. It must be created by or composed of at least 5 natural persons (up to a maximum of 15), technically called “incorporators.” Juridical persons, like other corporations or partnerships, cannot be incorporators, although they may subsequently purchase shares and become corporate shareholders/stockholders.
The liability of the shareholders of a corporation is limited to the amount of their capital contribution. In other words, personal assets of stockholders cannot generally be attached to satisfy the corporation’s liabilities, although the responsible members may be held personally liable in certain cases. For instance, the incorporators may be held liable when the doctrine of piercing the corporate veil is applied. The responsible officers may also be held solidarily liable with the corporation in certain labor cases, particularly in cases of illegal dismissal.
The biggest businesses take the form of corporations, a testament to the effectiveness of this business organization. A corporation, however, is relatively more difficult to create, organize and manage. There are more reportorial requirements with the SEC. Unless you own sufficient number of shares to control the corporation, you’ll most likely be left with no participation in the management. The impact of these concerns, however, is minimized by the army of lawyers, accountants and consultants that assist the corporation’s management.