12 What

The process of crafting a meaningful mission statement forces entrepreneurs to think diligently about what exactly they aim to do, and how they want to go about doing it.  “What is the business entity?” is an intentionally vague prompt, but the basics of business structures may help serve as a starting point.  Persons crafting a mission statement should have a clear sense of who is involved in the venture: is the mission being written by one person about their own artistic exploits, or does the mission reflect the value and ambition of a large group of people?

Especially as a venture grows into a startup and seeks funding, capital investment relies heavily on talent.  Some studies show that venture capital investors care as much or more about the charisma, qualifications, and dedication of the individuals behind a startup than about the quality of the idea or business plan.  A mission statement should at least be written through a frame that considers the vision of personnel within the entity.

Before reading on: search for a mission statement from a few of your most (or least) favorite companies—many mission statements are readily available online.  How do these mission statements reflect the way the company views itself, in terms of structure and its relationship to those who benefit from the company’s value?

A clear sense of what or who the business is may denote certain implications about the organizational structure of the business from a legal structure.  Further information in the U.S. may be found in IRS publication 583: “Starting a Business and Keeping Records.”  Even outside the U.S., these basic legal structures exist—because the ways people work together to start ventures tend to follow patterns in some way similar to businesses that have already existed.

A sole proprietorship is a person who is operating their business alone—if the proprietor offers something valuable to a market and receives money for it, they have already started a business! Proprietorships are unincorporated, meaning the owner may not need to have filed any special documents to be considered a business entity by law.  Under current guidelines, an individual needs to earn a profit (earn more income than expenditures in a year—also known as earnings) at least 3 out of 5 years.  If the individual loses money every year, the venture is considered a hobby in terms of the tax code, which may mean that the earnings or expenditures are no longer eligible for any pertinent tax advantages to owning a proprietorship.

profit = revenue – expenses

In general, since a proprietorship describes a structure which has not created any separate legal business entity, any assets of the business are also personal assets.  This also means that liabilities of (debt owed by) the business are also personal liabilities, and vice versa.  Ergo, a bad personal credit score can impede securing a loan for the business, or an accident and subsequent lawsuit against the business can also be levied against personal assets.  If customers often enter the business owner’s property as part of doing business, then creating a separate legal entity can help separate and protect personal assets against business liability.

More information about current guidelines and tax information for a sole proprietorship may be found under IRS publication 334: “Tax Guide For Small Businesses.”

If two or more people work together for their business, a partnership might best describe the business structure.  Under a partnership, “each person contributes money, property, labor, or skill, and expects to share in the profits and losses of the business.”  Partnerships come with a slew of unique legal scenarios, including the common practice of spouses working together, which may require different tax treatment than a graphic design collective or a dance troupe.

More information about current guidelines and tax information for partnerships may be found in IRS publication 541: “Partnerships.”

In both above cases, income from the business flows directly to the induvial businesspeople earning that share of a company’s profits.  But, if a legal separation between business and personal assets is desired, a corporation may better suit the business structure. Corporations are named as such because business owners file articles of incorporation to create an independent legal entity responsible for the business.  The corporation is treated as its own entity in terms of tax responsibility too, however—this means that the company earns a profit and then separately pays the employees (which may include the businesspeople who had started the company).  Since taxes are generally levied on each occasion that money moves from one entity to another (a person pays sales tax to make a purchase at a store; the store—a corporate entity—pays a corporate tax; the company pays its workers, who then pay income tax; if the store owns real estate, it pays property tax; the cycle continues…), this structure may cost more from a tax liability perspective.  Tax codes change often however, so always consult current publications and seek guidance from a tax professional.

Corporations come in different sizes, from a simpler Limited Liability Corporation (LLC) to a more complex S Corporation or C Corporation.  More information about guidelines, legal implications, and tax information may be found in IRS publication 542: “Corporations.”

Special legal structures exist for entities with a primary motivation of doing “good” for society, although defining just what “good” means can be a challenging endeavor; for many businesses, the objective is to earn money (and for an artist, probably to earn money by doing what the artist loves to do—make art), but if the objective is mainly to benefit society, the business may be eligible to incorporate as a non-profit entity.  Non-profits and not-for-profit companies still make money and pay employees, but they do so as a means of fulfilling a higher purpose of serving their community.  As a benefit of their magnanimity, such organizations gain favorable tax treatment.

More information about whether an organization may file for exemption and how they may do so under Section 503(c) may be found at the IRS Small to Mid-Size Tax Exempt Organization Workshop.