You have several choices when you organize a new business. Two of them are bad choices. They do not shield your personal assets from the attacks of vendors and customers. The first bad choice is a sole proprietorship. Because it is not chartered with the state, and thus easy to set up, you do not have a separate legal entity offering protection. Instead, you are the business, and if the business is sued so are you.
An even worse way to do business is the second choice: A general partnership. If you fail to incorporate, then when you and at least one other person come together to do business, you are a general partnership. This means you are personally responsible for whatever happens in the business. A general partnership can come together innocently enough. When you and your friend shake hands to start a business and share profits, you are now general partners through a process known as innocent formation. The consequences, however, are by no means innocent. You are now personally responsible for whatever may happen. If your partner makes a business mistake, you are personally responsible for it.
With the risks of doing business and the creative theories of liability increasing every year it is, to be blunt, unwise to do business as a general partnership. An attorney will most likely strongly disagree with any suggestion of operating a general partnership. Furthermore, the cost of setting up a corporation is less than drafting a general partnership agreement. There is really no good reason to operate a business as a general partnership. That is, of course, you enjoy placing you and your assets behind a big, red bulls-eye for future creditors to pick off.
- As a partner in a general partnership you are personally responsible for your partner’s acts – even if you did nothing wrong.
- Being responsible in a sole proprietorship or general partnership means all your assets – your house, bank accounts and personal belongings, are exposed to creditors.
Whereas a general partnership or sole proprietorship offer no liability protection, a corporation, LLC or LP all offer true limited liability. Stick with what is true.