Corporations

Learning Objectives

  1. Explain how corporations are formed and how they operate.
  2. Discuss the advantages and disadvantages of the corporate form of ownership.

 

Types of US Businesses

Types of US Businesses

A corporation (sometimes called a regular or C-corporation) differs from a sole proprietorship and a partnership because it’s a legal entity that is entirely separate from the parties who own it. It can enter into binding contracts, buy and sell property, sue and be sued, be held responsible for its actions, and be taxed. Corporations account for 18 percent of all U.S. businesses but generate almost 82 percent of the revenues. Most large well-known businesses are corporations, but so are many of the smaller firms with which you do business.

 

Advantages and Disadvantages of Corporations

Factors

Consideration

Start-up

 Including filing and licensing fees with accounting and attorney fees, incorporating a business can cost $1,000 to $6,000 or more depending on the size and scope of the business.

Control

 Shareholders elect a board of directors, a group of people (primarily from outside the corporation) who are legally responsible for governing. Corporate managers don’t necessarily own stock, and shareholders don’t necessarily work for the company.

Benefactors

 All shareholders share in the profits of the business.

Taxation

 Corporations are subject to “double taxation.” They are taxed by the federal and state governments on their earnings. When these earnings are distributed as dividends, the shareholders pay taxes on these dividends. Corporate profits are thus taxed twice—the corporation pays the taxes the first time and the shareholders pay the taxes the second time.

Capability

 Corporations are generally able to attract more skilled and talented employees than are proprietorships and partnerships.

Sustainability

 The corporation has a legal life separate from the lives of its owners. Transferring ownership of a corporation is easy: shareholders simply sell their stock to others.

Financing

 Incorporation makes it possible to raise funds by selling stock. Depending on its size and financial strength, it may also have an advantage in getting bank loans.

Liability

 Incorporation limits the liability to which shareholders are exposed: they are not responsible for the obligations of the corporation, and they can lose no more than the amount that they have personally invested in the company.

 

Ownership and Stock

Corporations are owned by shareholders who invest money in the business by buying shares of stock. The portion of the corporation they own depends on the percentage of stock they hold. For example, if a corporation has issued 100 shares of stock, and you own 30 shares, you own 30 percent of the company. The shareholders elect a board of directors, a group of people (primarily from outside the corporation) who are legally responsible for governing the corporation. The board oversees the major policies and decisions made by the corporation, sets goals and holds management accountable for achieving them, and hires and evaluates the top executive, generally called the CEO (chief executive officer). The board also approves the distribution of income to shareholders in the form of cash payments called dividends.

Key Takeaways

  • A corporation (sometimes called a regular or C-corporation) is a legal entity that’s separate from the parties who own it.
  • Corporations are owned by shareholders who invest money in them by buying shares of stock.
  • They elect a board of directors that’s legally responsible for governing the corporation.
  • A corporation has several advantages over a sole proprietorship and partnership:
    • An important advantage of incorporation is limited liability: Owners are not responsible for the obligations of the corporation and can lose no more than the amount that they have personally invested in the company.
    • Incorporation also makes it easier to access financing.
    • Because the corporation is a separate legal entity, it exists beyond the lives of its owners.
    • Corporations are generally able to attract skilled and talented employees.
  • A corporation has several disadvantages over a sole proprietorship and partnership:
    • The goals of corporate managers, who don’t necessarily own stock, and shareholders, who don’t necessarily work for the company, can differ.
    • It’s costly to set up and subject to burdensome regulations and government oversight.
    • It’s subject to “double taxation.” Corporations are taxed on their earnings. When these earnings are distributed as dividends, the shareholders pay taxes on these dividends.