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The primary differences between ways of conducting business are in liability of the owners for debts of the business and in the tax treatment of the owners. There are other differences, but for the owners and operators of businesses these are the primary consideration. For operating businesses the usual choices depending on the number of owners, are a sole proprietorship, a general partnership, a corporation, a S corporation or a limited liability company.

LLPs are generally used only by certain professional practices where the partners must be liable for their own malpractice and that of those they supervise. LLPs allow a partner to escape liability for the malpractice of other partners or partnership employees not supervised by the partner in question.

LPs are not too often used these days except as family limited partnerships which are used for giving assets to younger family members at discounted values in order to minimize gift and estate taxes. They also are sometimes used as an asset protection vehicle.

As for the other entities, one of the primary considerations is whether or not the owners of the business are liable for the debts of the business. Sole proprietors and partners in general partnerships are. Why do people conduct business this way? Because they are the simplest forms of business.

The tax considerations are more complex, but generally an owner would like to be taxed as a sole proprietor or as a partner in a general partnership. A regular corporation pays tax on its own income and when it pays dividends to its shareholders they pay tax on the dividends. There is double taxation of the same income. This is not the case with other types of entities. There are other tax considerations which are more complex, but generally sole proprietor and partnership tax treatment is more favorable.

The LLC is taxed like a partnership, or a sole proprietorship if there is only one owner. (It can elect to be taxed as a corporation). The LLC limits the liability of its owners. It has some other attractive features as well. However, it is not usually the best choice for a small business because it is more expensive than a S corporation to set up and maintain.

The S corporation is a corporation formed like any other corporation under state law which files an election form with IRS. This eliminates the double taxation. Because of this and lower costs than an LLC, it is often the most suitable entity for small businesses. However, in many ways its tax treatment differs from the partnership tax treatment an LLC can have. For this reason depreciable assets, such as real estate, should not be in an S corporation. The S corporation is also limited to 100 owners, none of whom can be non-resident aliens and it cannot have certain trusts and estates as owners. Few small businesses have to deal with those types of owners though.

Ignoring cost, the LLC is the preferable entity, except in one instance. If an owner renders 500 or more hours of service to the entity, or in some other circumstances, all distributions are subject to self-employment taxes on distributions and the employment taxes which do apply are only on the wages of the owners – not other amounts paid to them.

There are many other considerations which apply to the choice of entity and there are many particular situations in which what is said above is inapplicable.
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