Recently, I received a telephone call from an auctioneer with a question. I didn’t know the auctioneer, but I’ve heard the question many times.
“Mr. Proffitt, a friend of mine said I should call you because you could tell me what to do with my auction business. With all the suits these days, I’m not sure whether to form a corporation or an LLC. Which one do you recommend?”
It’s much in vogue for small business people to form corporations and limited liability companies for their businesses. The fellow who called explained he has been working as an auctioneer for some years, and now wants to step up to a more formal type of business entity.
Not surprisingly, his motivation is to avoid personal liability for a claim that might arise from the conduct of his business. He shares this goal with many businesspeople and what I’m going to cover applies to all of them.
Let’s start at the beginning by considering business entities generally. There are four common entity forms used by businesses: sole proprietorship, partnership, corporation and limited liability company.
A number of factors can weigh into the selection of what type of entity to use for a given situation, including issues of capitalization, divisional ownership, management structure, anticipated growth and expansion, taxation, the ability of the owner to eventually sell the enterprise and, chief among them all, protection for the owner against personal liability that might spring from business conduct and affect individual assets. A quick look at each entity form will aid our understanding.
Sole proprietorship The auctioneer who telephoned me has been working as a sole proprietor. A proprietorship is the simplest and easiest business entity to form and conduct. It arises when an owner commences doing business. A barber, farmer, plumber, small grocer and auctioneer are all typical examples of sole proprietors who sell goods and services in the most basic format that the law recognizes.
The overriding characteristic of a sole proprietorship is that the owner and the business are indistinguishable. They appear as one and the same in the eyes of the public and the law.
Partnership When two or more people jointly operate a business, they are partners. Partners own and control a business in agreed-to, fractional units. Two partners might own a business as equals (i.e., 50-50), or they might be unequal partners and own it in some other fractional configuration, such as 60 percent for one and 40 percent for another (i.e., 60-40).
A partnership is like a proprietorship in that the business is linked directly to the partners. Like a proprietorship, a partnership is also a fairly simple structure to establish and conduct.
Corporation The laws of the various states allow business owners to incorporate their enterprises, and many do. A corporation is defined by law as an “artificial person.” A natural person and a corporation have many of the same legal rights and responsibilities.
Each can earn and spend money; buy, own and sell property; engage in banking; engage in commerce; hire and fire employees; borrow and loan money; and pay taxes.
There are also sharp differences between a natural person and a corporation.
We saw that a sole proprietor and his business are indistinguishable.
The business of a corporation belongs solely to the corporate entity and is separate and distinct from the affairs of its shareholders, directors, officers and employees.
Limited liability company A limited liability company is another form of “artificial person” provided for by state law. This entity form is much newer than the long-used corporation and it was conceived to combine the best aspects of a partnership and a corporation, while avoiding some of the less desirable traits of both.
Like a partnership, a limited liability company is easier to operate than a corporation. Unlike a partnership does for its partners, a limited liability company offers its “members” a shield against liability – just like a corporation does for its shareholders.
I couldn’t answer the question the auctioneer posed over the phone, because it involved financial and tax issues that are beyond my expertise. However, I could speak to the legal aspect of what the auctioneer wanted to know and I did.
Before giving my advice, I asked him to give me some information. Specifically, I wanted to know what role he plays in his business and what things he does and with whom.
The gentleman explained he works as a general auctioneer and does all of the things that auctioneers customarily do – from signing up sellers to preparing advertising materials, to organizing and setting up the goods for sale, to working with prospective bidders, to conducting the auctions and calling the bids, to settling up with the sellers. Like many auctioneers, this man wears all of the hats in his business.
This was invaluable insight and it enabled me to understand his work. I dovetailed this knowledge into recognition of what a corporation or limited liability company may or may not offer him in his quest for protection against personal liability for business claims. This was central to his inquiry and he said what I told him helped.
I’m glad I could help him, but I also surprised him. Next week, I’ll explain why. Steve Proffitt is general counsel of J.P. King Auction Co., Inc., online at www.jpking.com
He is also an auctioneer and instructor at both Reppert School of Auctioneering in Auburn, Ind., and Mendenhall School of Auctioneering in High Point, N.C.
He welcomes questions from readers about auctions and auctioneering. Readers’ communications may be reprinted in whole or part.
Proffitt will answer selected questions but cannot provide personal answers. His answers do not represent legal advice or the formation of an attorney-client relationship. Please submit questions to sproffitt@jpking.com |
