Unincorporated Entities
§ 3.1Unincorporated Entities Generally
Several types of business entities do not require formal registration filings with the state of Texas to begin operations. These are generally referred to as “unincorporated organizations” and will be described here in further detail. Sole proprietorships and partnerships are the most common of this entity type. Generally, unincorporated entities are simple to form and carry greater risk of liability to the business owner.
A sole proprietorship is the most basic form of business entity: an individual who begins a business operation on their own without creating a separate entity such as a corporation. Sole Proprietorships could include a bicycle shop owner, an accountant, a caterer, or any other business owned and operated by a single person.
The primary benefit of choosing a sole proprietorship is simplicity. No registration forms or filing fees are required to begin operations, and no state annual filings or annual company meetings are required. No state franchise tax fees are incurred—however, federal income taxes will still be required via a schedule C and schedule SE attached to the owner’s individual form 1040. The business owner will pay federal self-employment tax, in addition to other income tax due.
The primary downside to a sole proprietorship is the business owner’s exposure to liability. The business and owner are considered to be one and have no protection against personal liability for issues that arise in the course of running the business, unlike other forms such as a limited liability company (LLC) or corporation. This could include common business debts and also costs related to lawsuits for anything from breach of contract to a slip and fall.
A general partnership is the most basic form of business entity that involves two or more owners. Partnerships are discussed in more detail in chapter 6 in this manual.
Joint ventures (JV) are created to accomplish a particular project with limited scope, for example, a real estate development or research project, rather than an ongoing business operation. The JV is created through an implied or written agreement between the involved parties. A JV itself is not a recognized business entity, so the parties will need to choose a business entity and taxation structure similar to other choice-of-entity possibilities. A thorough written agreement laying out the scope of the venture and allocation of responsibilities and finances is strongly advised.
Trusts are structures that appoint a trustee to manage assets for one or more beneficiaries as stated in a declaration of trust. Trusts can have many purposes (most commonly estate planning) and are not recognized as a business entity by the IRS. However, a trust can be a member of an LLC and afford greater privacy to the trust beneficiaries in public filings that would otherwise name the individual owners. Additionally, the LLC’s assets would pass to the trust beneficiaries outside of probate should the owner pass away. Downsides of such a structure are restrictive operational capacity and potential tax consequences. Inclusion of trusts in the business formation structure should be discussed with attorneys and tax professionals who are familiar with both estate planning and operational business needs.
A nonprofit association is an unincorporated organization, other than one created by a trust, consisting of three or more members joined by mutual consent for a common, nonprofit purpose. This can be an informal way to create an organization for any number of nonprofit purposes, allowing the organization to own property and also protecting its members against personal liability. Unincorporated nonprofit organizations are not recognized in all states and could face difficulties with fundraising due to the lack of formal structure and 501(c)(3) status. Nonprofit associations must apply for state franchise and federal income tax exemptions (though not guaranteed). More information can be found on the Texas secretary of state’s website, www.sos.state.tx.us/corp/forms/208_boc.pdf.