FORMS OF BUSINESS FOR PROFESSIONALS

States restrict which business forms certain kinds of professionals may choose when they begin a business solely to provide their professional services. The most common occupations that these laws apply to are any type of health care professionals, attorneys, engineers, veterinarians, psychologists, and social workers. Although requirements change from state to state, professionals generally may choose to be sole proprietors, or to form a partnership, a professional corporation, a professional limited liability partnership, or a professional corporation. Professionals should consult their attorneys to determine what business forms are available to them in their state.

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Sole Proprietorship

Sole proprietorships are effectively the “default” business form if a single professional simply opens a practice without choosing a business entity. No filing is required. A sole proprietor is legally inseparable from his or her business. If the sole proprietor dies or ends his or her practice, the business dissolves. He or she is personally liable for all of the business’s debts. The business profits or losses are reflected in the sole proprietor’s individual tax returns.

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Partnership

Similar to a sole proprietorship, a partnership is the “default” business form if several professionals begin practicing without registering a business entity. A partnership exists until a partner dies or leaves the partnership; then the original partnership dissolves, and the remaining ex-partners may choose to reform again. Partners act as co-owners, and share all profits, losses, and legal liabilities equally. This last factor is the reason why some professionals have grown uncomfortable in partnerships-if one partner commits malpractice, other partners may all be liable for any damages not covered by that partner’s malpractice insurance. However, partnerships have the advantage that profits and losses are reflected in the partners’ individual tax returns, and the business itself is not separately taxed.

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Professional Corporation

Corporations are separate from, and survive the death or departure of, their owners, or “shareholders.” They pay tax as independent entities, which subjects shareholders to “double taxation” when they must pay individual income tax on taxed business income which is distributed to them as dividends. The hallmark of a corporation is that it shields its shareholders from liability for the acts of the company or other shareholders. Managing a corporation is also more complex and formal than managing other entities.

Professional corporations are similar, but are subject to a few restrictions. They must generally be formed purely to provide professional services. Also, all shareholders must be licensed to render that service. For example, in a professional corporation formed to provide dental services, all shareholders must be licensed dentists.

The primary reason to form a professional corporation is to limit personal liability. For instance, a member of a medical group would not want to be liable for the malpractice of another associate. The corporate entity provides that shield. Another benefit of forming a professional corporation is favorable tax treatment for employee fringe benefits.

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Professional Limited Liability Partnership

A professional limited liability partnership is a hybrid partnership comprised of licensed professionals. In it, the “limited partners” contribute assets to the business and are entitled to a share of the profits, but are not entitled to make management decisions. They enjoy limitation of their personal liability to the amount of their contribution. They are not, however, insulated from liability for the partnership’s general debts. “General partners” make management decisions and are not shielded from personal liability.

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Professional Limited Liability Company

A professional limited liability company (PLLC) is similar to an LLC, or limited liability company. An LLC limits personal liability like a corporation, but its owners, or “members,” do not suffer from double taxation. LLCs are a “pass-through” type of tax entity-the LLC’s profits or losses pass through the business and are reflected and taxed on the owners’ individual tax returns instead of being reported and taxed at the separate corporate level. Its members invest in the LLC and receive a proportional ownership interest in return. This percentage interest is used to divide profits, voting rights, and assets that the business liquidates. An LLC’s management structure is also more flexible than that of a corporation or a partnership because members can choose a centralized management structure without some of a corporation’s complex requirements.

Certain types of licensed professionals may only form PLLCs, not LLCs. Members are often required to carry certain amounts of malpractice insurance, or to be bonded.

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Disclaimer

This publication and the information included in it are not intended to serve as a substitute for consultation with an attorney. Specific legal issues, concerns and conditions always require the advice of appropriate legal professionals.

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