Your choice of business structure isn’t just a checkbox on a form. It’s a decision that can shape the entire trajectory of your business. Like laying down the foundation for a house, it affects everything from how you pay taxes to how you protect your assets. And let’s face it, these decisions can make or break your bottom line.

Certain business structures act like a suit of armor, shielding you from potential lawsuits and financial risks. Other structures, particularly what you might refer to as a “partnership” or “joint venture,” might actually be enhancing your liability rather than minimizing it. If your business deals with clients or operates in a heavily regulated industry, the last thing you want is to be personally on the hook for any legal troubles that may arise. It’s like having a safety net to catch you if things go south.

But it’s not just about protection. It is also about laying the groundwork for growth. Your business structure sets the stage for how you’ll expand and evolve. So, it’s crucial to think about all the moving parts that could be impacted by your choice.

Understanding Business Structures

Denver startups have several business structure options to choose from, each with its own set of legal considerations. Common business structures include: 

  • Sole proprietorships
  • Partnerships
  • Limited liability companies (LLCs) 
  • Corporations.

Sole Proprietorship: 

Sole proprietorships represent one of the simplest forms of business structures, often unnoticed by many who are already running their businesses independently. If you are a freelancer or a member of the gig economy working for others as an independent contractor, you probably are a sole proprietorship already. The sole proprietorship is not a different entity from you at all. It’s just you, the human being, doing business. Being classified as a sole proprietorship means you are solely responsible for the operation, management, and liability of your business.

There are some advantages to this kind of business. They’re dead simple to create, since they don’t really need to be created at all. There can be practically no corporate governance formalities to respect, since it’s all just one person anyway. There are not usually any fiduciary duties owed to other owners or investors, since there are none. Taxes are also simple, since the individual simply files an individual return with certain forms explaining self-employment. 

But, there are a lot of problems, too. Since there is no entity, the human being running the sole proprietorship is usually personally liable for any debt or liability of the business. That means business creditors may be able to easily seize personal assets. Some laws or government agencies will not respect a sole proprietorship as a legitimate separate business and may want to classify the sole proprietorship as an employee of its customers, particularly if most of the sole proprietor’s income comes from a single source. Since there is no independent entity, there is no stock to sell and no easy way to raise equity or investment or to sell the business if the sole proprietor wants to retire.

Note that using a trade name does not make a sole proprietorship into a business entity. A trade name registration used by a sole proprietorship is little more than a pseudonym for the individual owner.

Partnership 

Partnerships involve two or more individuals sharing ownership and responsibilities for the business. There are two main types of partnerships: general partnerships and limited partnerships. General partners have unlimited liability, while limited partners’ liability is restricted to their investment in the business. Limited Partnerships are a specialized kind of entity, but general partnerships are a common law concept.

If you are in business with someone else and have not carefully defined what kind of business you are running, you may end up with a general partnership. Sometimes these are called “joint ventures.” Like a sole proprietorship, general partnerships are little more than the two or more human individuals doing work. They can both be individually liable without any entity protection. Worse, they may be liable for all of the debts or liabilities of all the other partners! Additionally, each partner may be an owner of all of the partnership assets. This means a rouge partner can easily make a lot of trouble for a partnership. 

General partnerships are incredibly easy to establish. It can be done merely by agreement between two or more individuals to start a business together. This also means it is possible to establish a general partnership without fully realizing that is what you are doing! For example, if you seek out someone else to help you with a project because they have skills or a license you lack and you do not make it clear whether this is an employment or contractual relationship, you might end up with a common law general partnership. 

Limited Liability Company (LLC)

Most business owners that are serious about establishing a growing concern in Colorado choose to form an entity. Many different kinds exist, but the point of virtually all of them is to create a new, artificial legal “person.” The entity has many of the same rights and powers as a real person. It can own property, make contracts, and incur debts and liabilities. In general, only the entity is liable for the entity’s own liabilities, meaning that the individual owners are shielded from the liabilities of the business under normal circumstances.

The most common entities formed in Colorado are the Limited Liability Company (LLC) and the Corporation. Of the two, the LLC is more flexible, benefits from more favorable caselaw related to the owner’s liability to creditors, and allows for filing taxes as a corporation, an S-Corporation, a partnership, or a disregarded entity with certain limitations. This tax flexibility alone tends to make the LLC a favored choice of many accountants, from what I have seen. There are some differences in terms of deductions compare to a corporation, such as fringe benefits, though.

The owners of an LLC are called members and those with management power are called managers. Management can be vested directly in the members, though. Unless modified by contract, those managing an LLC may have slightly different duties to the entity than directors may owe to a corporation. One of the most relevant of these duties is that managers have a duty to hold assets for the benefit of the LLC. This can cause mischief if an investor buys a membership interest in an LLC but also operates a competing business, since it may lead to accusations that business opportunities are being diverted. 

Corporation

The other common form of entity in Colorado is the Corporation. These have the benefit and drawback of a long, complicated legal history enshrined in ample statues and case law. Thus, they are less flexible than an LLC in terms of duties and governance but potentially more predictable in the hands of those with sufficient experience or skilled accountants and management. 

Corporations are generally owned by shareholders, controlled by directors, and managed day to day by officers. The shareholders do not necessarily participate in management and there is less risk of a shareholder accidentally getting in trouble for competing with the company than can arise in a member-managed LLC. Corporations may require more attention to the corporate formalities. The law expects that corporations conduct regular meetings and document decisions being made by the shareholders and directors. 

Despite the initial complexities, forming a corporation in Denver may be advantageous for certain businesses, especially those with medium to high levels of risk. Additionally, corporations are often preferred by businesses planning to go public in the future or those seeking to raise capital from investors. The corporate structure instils confidence in investors due to its well-defined governance structure and established legal framework, making it an attractive option for businesses looking to attract external funding or expand their operations.

Consulting Legal Professionals

Given the complexity of legal considerations involved in choosing the right business structure, Denver startups are advised to seek guidance from legal professionals specializing in business law. 

Underhill Law can provide invaluable assistance in evaluating the pros and cons of each structure, drafting necessary legal documents, and ensuring compliance with state and federal regulations.

With the guidance of legal professionals, Denver startups can navigate the complexities of business structuring and position themselves for growth and prosperity. For advice and guidance, reach out to a skilled Denver business lawyer from Underhill Law.