What Is a Business Entity?
At the most basic level, a business entity refers to the ownership of an entrepreneurial endeavor and how it is legally recognized. There are various types of business entities, with the primary being the sole proprietorship, partnership, corporation, and Limited Liability Company (LLC)
When starting a flower shop, one of the first steps to tackle is deciding on the business entity type. The structure you choose is the foundation of your business and can have significant legal and tax implications. Understanding these implications before opening can save you from costly mistakes down the road. Additionally, having the entity established will be needed before completing several future steps.
So, how do you decide which legal structure is best for your flower shop? I will explain the different entity choices and their pros and cons to help with your decision. Keep in mind that this is a crucial decision for your business, and I am not an expert. I recommend you consider the services of a legal and financial professional before making the final choice.
Types of Business Entities for a Flower Shop
There are four primary types of business entities. An overview of each follows.
A sole proprietorship consists of an individual, who is the sole owner of the business. Legally the owner and business are considered the same. So, if the business gets sued, the owner’s personal assets are potentially at risk. The sole proprietorship is the easiest and least expensive of the four business entities to form.
By default, when you launch a new business or are an independent contractor and are the only owner, you are considered a sole proprietorship.
A sole proprietorship is easy to form because no states require one to be registered. Many states require the registration of the business name (which may be called a DBA, Doing Business As, Assumed Name or, Fictitious Name). As with any business structure, a business license, Employer Identification Number (EIN), and sales tax registration may be needed as well.
Because of the ease and cost of starting a sole proprietorship, it is one of the most popular types of business structures for a flower shop. The LLC is the next most popular due to its liability protection. Here is a breakdown of the pros and cons of the sole proprietorship.
Pros of a Sole Proprietorship:
- Easy – There is no state entity filing, which makes it fast to get started. A business name may have to be registered.
- Inexpensive – Since there is no state filing, there is no cost to form, unlike the corporation or LLC. The business name registration is usually very affordable.
- Control – The owner has full control over the business as there are no investors.
- Taxation – The business itself does not file a tax return as it is considered a pass-through entity. The owner files a Schedule C on their personal income tax return (Form 1040) to show the profits or losses on their personal tax return. All profits are subject to self-employment taxes, which is a combination of social security and medicare taxes).
Cons of a Sole Proprietorship:
- Liability – The owner is personally liable for the debts and activities of the business. Despite all the upsides of the sole proprietorship, this is a significant risk. If the business faces legal action, the owner’s personal assets such as their house, vehicle, cash, etc. are potentially at risk. This may not be a huge concern for most flower shop owners, as the most significant risks could be somebody slipping and falling in your shop or an employee having an accident while making a delivery (which insurance should cover). Even with insurance, forming a corporation or LLC provides a separate legal entity and protects the owner’s assets.
- Access to Funding – A sole proprietor can only get debt financing, say from a bank or individual. However, a sole proprietor can’t sell off a piece of their business like a corporation or LLC. Not that many florists will look for investment, but it’s still worth noting.
A general partnership is similar in structure to a sole proprietorship and shares many pros and cons. A partnership consists of two or more individuals and is the default business structure for businesses owned by multiple people.
Most states don’t require the partnership to be registered, making for quick, easy, and inexpensive formation.
Pros of a General Partnership:
- Easy – Just a few states require general partnerships to register. Even in states without formal registration, a name registration will likely be needed.
- Inexpensive – Since there is no state filing in most states, there is no cost to form; however, the business name registration will cost a small amount.
- Shared Workload & Investment – With a partnership, the work and costs are split among multiple people.
- Control – The owners have full control over the business.
- Taxation – The business itself does not file a tax return as it is considered a pass-through entity. The owners file IRS Form 1065 to show the profits or losses on their personal tax returns.
Cons of a General Partnership:
- Liability – Each owner is personally liable for the debts and activities of the business. This is a primary con of the partnership because if a partner signs a contract or causes the company to be sued, all partners are responsible.
- Informal – The creation of a partnership is easy, but this can cause disagreements on how the company should be run. It’s highly recommended to prepare a partnership agreement to help avoid potential disputes down the road.
- Access to Funding – Partnerships are only able to access debt financing.
A corporation is a legal entity that exists separately from the company’s owners. Unlike the sole proprietorship or partnership where the individual’s personal assets are potentially at risk, a corporation, in most cases, protects the owners from the debts and liability of the business.
The corporation is the most complex of the four business entities. A corporation must have a board of directors, an annual board of director’s meeting and shareholder’s meeting, taking minutes at the meetings, issuing stock, etc. These formalities are required to maintain the entity’s liability protection. This is all true even if the corporation is owned and run by one person.
The IRS allows for two different ways for a corporation to be taxed, as a C-corporation and S-corporation. Trying not to dive into taxation too much and keeping a very broad generalization between the two as it is very complicated, the C-corporation is usually better for companies with investors due to the double taxation of profits and dividends, while the S-corp is a pass-through entity which is usually better for most small businesses.
The formation of a corporation happens through a state (typically the Secretary of State’s office), through filing the Articles of Incorporation.
Pros of a Corporation:
- Liability Protection – The corporation’s biggest pro is protecting the owner(s) personal assets from debts and lawsuits.
- Access to Capital – In addition to bank financing or loans from individuals, a flower shop could sell their corporation’s shares to investors to raise funding.
Cons of a Corporation:
- Complexity – Since you are registering a new entity with the state, it is more complicated than the first two entities. There are entity formation services you can use that make sure the filing is done correctly. There are several out there, but IncFile and Inc Authority only charge the state fees, which is much better than trying to figure it out yourself or miss a step.
- Corporate Formalities – A corporation is required to have a shareholder’s meeting and board of director’s meeting, in addition to taking minutes at the meetings. This will sound especially unnecessary for a corporation owned by one person but is required in order to maintain the liability protection of the entity.
- Cost – The corporation is filed with the state, with a fee that ranges from $50 to $455 depending on the state. Also, there is a recurring cost (usually annually) to keep the corporation active.
Limited Liability Company (LLC)
A Limited Liability Company is a very popular business entity structure for flower shops as they offer the ease of operation like the sole proprietorship and partnership but have the personal liability protection of the corporation.
While more complicated to form than the sole proprietorship or partnership, it isn’t as complicated as the corporation. Plus, you don’t have the corporation’s administrative tasks of the meetings and minutes.
Pros of an LLC:
- Liability Protection – The biggest pro of the Limited Liability Company is the protection of the owner(s) personal assets from debts and lawsuits.
- Taxation – The LLC offers the most tax flexibility of the other three entities as it can elect to be taxed like a sole proprietorship, partnership, C-corporation, or S-corporation. The tax status selection is confusing at first but, regardless of the tax election, the liability protection does not change. Selecting a tax status is an area where an accountant will be beneficial. Another benefit of the LLC is that the tax status can be changed, within limits.
- Access to Capital – In addition to bank financing or loans from individuals, a portion of the business can be sold to investors to raise funding.
Cons of an LLC:
- Complexity – It is more complicated to form an LLC than the first two entities since you register an entity with the state, typically by filing the Articles of Organization. There are entity formation services you can use that make sure the filing was done correctly.
- Cost – The corporation is filed with the state, with a fee that ranges from $50 to $520 depending on the state. Also, there is a recurring cost (usually annually) to keep the LLC active.
The Bottom Line
The choice of a business entity is a critical one, but there isn’t a “best entity for a flower shop” as there are many personal factors to consider. A few final thoughts:
- Sole proprietorships and general partnerships are often good entities to start your flower shop with, especially if starting small.
- As your business grows and generates more income or plans to start with several employees and offer delivery, you might consider registering now as an LLC or corporation for liability protection.
- If you choose an entity structure today and decide later there is a better option, you aren’t locked in forever. There are some complications from changing, such as updating business registrations and taxes but don’t stress if you aren’t sure.
- Whichever entity you go with, consider using a legal professional. If an attorney is out of the budget, look at entity formation companies like IncFile and Inc Authority to ensure all of the steps were done right.
- The choice of business entity can make a huge impact on the amount of taxes that are paid. Working with an accounting professional who can look at your personal and business financials will be well worth the time.
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