In order to understand and choose the type of business entity for your company, I often find it helpful to understand the history of corporations, partnerships, and LLCs (in addition to other business entities). In other words, in order to best understand where we are (i.e., the choices in entities), it helps to understand how we got here (i.e., how they came about). Though maybe that’s just because I am a bit of a history nerd.
In the olden days, probably before any of us were alive, there were just two categories of entities to operate a business: a corporation or a general partnership (for multiple owners) and sole proprietorship (for a single owner).
A corporation is an entity (a legal person) that is separate and apart from its owners (shareholders). The benefit is the owners are not personally responsible for the liabilities and debts of the corporation. In other words, the owners enjoy limited liability.
The downside to a corporation is it would be subject to double taxation. The corporation would be taxed as a separate person on its income. Then the owners would be taxed on dividends. Another downside is that a corporation also requires formalities such as meetings, record keeping, and reporting.
In contrast, partnerships and sole proprietorships are entities comprised of the individual owners. As such, the owners are liable personally for the obligations and liabilities resulting from the business. The risks of doing business would have been potentially great for non-corporate small business.
On the other hand, the benefit of such a business structure is that the income of the business passes directly to the owners as their own income, so it is taxed only once. In addition, a partnership or sole proprietorship does not require the formalities mandatory for a corporation.
In order to promote economic development, mainly in the latter half of the 20th century, states began passing laws allowing formation of various types of business entities to provide the benefits of a corporation (limited liability for the owners), and the benefits of general partnerships (pass-through taxation and less formalities). These include entities such as Limited Partnerships (LP), Limited Liability Partnerships (LLP), and now, most recently, the Limited Liability Company (LLC). In Washington State, where our law firm practices, limited liability companies were first authorized as of 1994. See RCW 25.15.900.
Nowadays, it seems to me most new companies are formed as limited liability companies, likely because these provide the most flexibility in terms of structure and management, and offer the benefits of both corporations and partnerships.
Of course, in determining the best business entity to form for your business, it is best to consult with your own legal counsel for specific guidance.