John Green and Mary Jones are both excited and concerned. You see, they are about to open a new coffee shop business, “Coffee Haus.” John’s been a computer programmer
and Mary is a transportation expert. They are both tired of their present jobs and wanted to do something new. They are weary of shortsighted bosses, of corporate policies that
hamstring their creativity, and of limited earning potential. So, they’ve decided to venture into (for them) the uncharted waters of entrepreneurship. They are bright and have
formulated a business plan and strategically chosen where to locate the shop. They’ve meticulously researched bean suppliers and believe they can catch the wave on a new
style of coffee drink. So, they think they’re ready to attack the business world and slip away from the bonds of being a mere employee. But they have some questions and
they’ve called me to get some answers. The future columns will follow John and Mary and attempt to address some issues many business owners encounter.
Their first question to me is, “What form of business organization should we be? It’s just the two of us, we’re starting off small, don’t have any employees initially, want to keep
expenses low, so can we just be a sole proprietorship?” This was my response.
“No, you can’t be a sole proprietorship. There are two of you.” Even if John and Mary were married, they still could not be a sole proprietorship because there are two of them.
So, by default, if they take no further action they are a general partnership. This happens even if they do not file anything with the state or federal government or sign any
agreement between the two of them.
One effect of this is that they are jointly and severally liable for any of the debts of the partnership. In other words, if the partnership fails to pay a debt, the creditor can look to
either John or Mary individually or both of them together to satisfy the debt.
This includes virtually any type of debt. A customer slips on spilled coffee or is burned by a scalding beverage. The customer would sue not just the store but also John and Mary
individually. If they’ve taken out a line of credit with a local bank, the bank will look to them to pay off the line if the store fails to make payments.
Filing a Fictitious Business Name Statement does not provide any protection. A DBA or Fictitious Business Name Statement is not a legally recognized entity. It is essentially the
same thing as an alias. It provides no liability protection. However, even though it provides no liability protection, you must file one if you are going to do business under
anything other than your legal name. Failure to file one may result in some liability. Since John and Mary are doing business as Coffee Haus, they must file a DBA.
Insurance provides some comfort, since it will cover many potential disasters, like the burnt customer. That is why I tell all my business clients, regardless of what type of
business they are in, that general liability and premises liability policies are necessities. But insurance does not cover everything. For instance, it excludes all contractual issues.
If John and Mary fail to pay their bean supplier, insurance will not help them.
One good thing about a general partnership is it is what is known as a “pass-through” entity. The government treats all income received by the partnership as though it went
directly to the two partners. Therefore, the partnership itself does not have to pay any taxes. Just the general partners pay taxes but they can still deduct actual business
expenses.
How do the other types of business organizations (limited partnership, corporation, limited liability company, joint venture, limited liability partnership) compare to a
general partnership? Do they provide any liability protection? Are they taxed like general partnerships or do they have to pay additional taxes? Is one form better than another? We
will answer that question in the next column. ©