Strategic business thinking applies to all aspects of running a company, even the form of ownership...

There are three types of business ownership, each bringing unique characteristics defined mostly through advantages and disadvantages. Many businesses may pass through several forms of ownership during their evolution. It is important to carefully assess the pros and cons of each before embarking on or changing direction.

The first type of ownership is sole proprietorship. This is where the owner is one person and is responsible for the ongoing operation and management of the business. This is the least complicated type of ownership as it is easy to set up and is exempt from many of the governmental regulations and reporting requirements. The income earned as a sole-proprietor business is taxed when the owner completes a personal income tax return. On the balance sheet, the owner's equity in the business is generally represented as a single line account 'owner's equity'.

Operating as a sole proprietor allows for the freedom to make all the decisions. The disadvantage is the liability consideration, as the owner is totally responsible for any debts incurred by the business. So, in the event the assets of the business are not adequate to meet the debts, the creditors may turn to the owner's personal assets for reimbursement. Another consideration of this type of ownership is that capital is quite often limited and growth can be hindered as a result.

Then there is partnership. In the partnership scenario, two or more persons are responsible for the business. No matter how well the partners know each other, it is prudent to ensure a formal written contract is created to deal with such issues as: dispute resolution, dissolving a partnership or transferring ownership when a partner wants out, who is responsible for what, and what value is applied to the specific services each partner brings. On the balance sheet, each partner is differentiated with a separate owner's equity account.

There are many upsides to this type of ownership. The existence of one or more partners generally means more capital is available to invest. Often it also means there is more experience and knowledge available. However, liability is also an issue, as each partner is responsible for all the debts. Where assets are not sufficient to cover debts and one or more partners cannot pay, personal assets may be taken to satisfy creditors.

The final type of ownership is incorporation. This type is more complicated and requires the services of a lawyer to incorporate the business. This means the business is registered as a corporation and must have approved articles of incorporation issued by either the provincial or federal government. The business is then considered a separate legal entity.

As the corporation is considered a legal entity, it protects the personal assets of the owners. In a corporation, the business owners are issued shares based on their investment and are referred to as shareholders. On the balance sheet, two main accounts differentiate the source of capital 1) Capital: moneys the owners have contributed to the business and 2) Retained earnings: moneys made by the business and kept in the business.

There are many things to consider when deciding on an ownership type. The decision may have both short- and long-term impacts. It's important to seek advice from a professional who can fully explain the pros and cons of the options. Regardless of what you choose, it is wise to review your business's status with your accountant from time to time to ensure both your personal and your business financial objectives are being maximized.

Copyright - Kelly Melanson, Certified Management Accountant