Types of business entities

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Main types of business entity

Businesses exist to make a profit.

There are three main types of business entity:

1. Sole Traders

Sole traders are people who work for themselves.  

Examples include a hairdresser, the local stationer, a plumber.  

A sole trader has unlimited liability, i.e. if the business runs up debts that it is unable to pay, the proprietor will become personally liable for the unpaid debts and would be required, if necessary, to sell his private possessions to repay them.  

For example, if a sole trader has some capital in his business, but the business now owes $50,000 which it cannot repay, the trader might have to sell his house to raise the money to pay off his business debts.

2. Partnerships

Partnerships occur when two or more people decide to run a business together. 

Examples include an accountancy practice, a legal practice and a medical practice.

In general, the partners have unlimited liability although there may be circumstances when one or more partners have limited liability.

3. Limited Liability Companies

Limited liability companies are incorporated to take advantage of ‘limited liability’ for their owners (shareholders).

This means that the maximum amount that an owner stands to lose in the event that the company becomes insolvent and cannot pay off his debts, is his share of the capital in the business.

In all cases, we apply the separate entity concept, i.e. the business is regarded as being separate from the owner (or owners) and the accounts are prepared for the business itself.

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