When identifying the rules of starting a business, one of the most important aspects is determining how to legally form your business.

This will effect your bottom line.  The type of business formation you choose will have significant implications in regards to taxes, liability protection, equity sharing, and control (among other more specific areas).

A business’ strategy needs to be closely linked to its legal formation.  So what are the basic rules of Business formation?

Well, they vary from country to country, so let’s start with the issues to consider when identifying the Rules of Business Formation:

1. Taxation

  • How will the business and owners be taxed- separately or together?  How is the tax burden shared?
  • Types of tax burden- What kind of taxes needed to be paid?  i.e. social insurance, health, employment taxes, etc.
  • Amount of tax burden- How much tax will the business need to face?
  • Tax Points- Where in business operations will taxes happen?  How frequently?  i.e. sales/consumption taxes, employee salary taxes, taxes at supply, on capital holdings, dividend payments, etc.  It’s important to look at where taxes happen, not just within the company, but along the capital chain from supply to customers to owners.
  • Exemptions- What are allowed tax exemptions for each type of formation?
  • Flexibility- How much room is there to adjust the way a company is taxed?

2. Liability Protection

  • Separation- Is the business a separate entity or an extension of the owners?
  • Protection of Personal Assets- How much protection is afforded to the owners’ and/or managers’ personal assets if the business is found liable?
  • Protection of Business Assets- How much protection is given to the business from claims against an owner of the business?   Is your business protected if your partner hasn’t paid her debtors?
  • Strength of Precedent- How reliable is the expected protection?  Has liability been tested in the courts?  Have court decisions always come down the same way?  This can very with type of formation as well as location of formation.

3. Equity

  • Flexibility- How flexible can the equity be shared?  Is there unlimited flexibility or are there boundaries to who, how many, and circumstances of ownership?  How easy is it to change equity ownership?
  • Trading- Can equity be sold or traded from any owner to another?  Or equity be sold to new owners?  What rules govern the exchange of equity.
  • Value- How is value of equity set?  Who controls it’s change?

4. Control

  • Who- Who has control over the company?  Owners?  Managers?  How much control does each group have?
  • Election flexibility- How easy is it to transfer control of the company?

While the names of business formations vary from country to country, there are generally 4 types of formation:

  1. Sole Proprietorship- This type of formation puts the entire burden of the business on a single person.  Taxes are shared with the business, and liability is also shared.
  2. Partnership- This is like a sole-proprietorship but ownership is shared among more than one person.
  3. Limited Company- This is a type of company that is generally considered a separate entity, protecting owners from liability of claims against the company.  Taxes, on the other hand, are passed through to the owners.
  4. Corporation- This is a company that is separate in liability and taxes from its owners.

Information on business formation, incorporation, and LLC formations in the U.S.- Click here.


Starting a Business in Delaware.
Starting a Business in Nevada.