In this lesson, we're going to introduce the concepts of sole proprietorships and partnerships, the two most foundational forms of business entities. In future lessons, we're going to build on the knowledge from this lesson to discuss more complex forms of business. So, this module is all about forms of business organizations. In this lesson, we're going to introduce the two most basic types of business entities, sole proprietorships, and partnerships. Now, there are tons of business organizations out there in the world. If I were just naming off the top of my head, you'd have sole proprietorships, general partnerships, limited partnerships, limited liability partnerships, limited liability limited partnerships, corporations, S corporations, limited liability companies. There's tons, right? We're going to start slow and build up and we're not going to care about all of those. We're going to talk about a lot of those that I just listed. So, the most foundational type of business form is called the sole proprietorship and its partner, the general partnership. These are very closely related ways of doing business. They are both the default method of doing business. If you don't take some action to file something with the Secretary of State or form some other organization like a corporation, then you will automatically be either a sole proprietorship or a general partnership. They're the only two forms of business that don't require you to register something with the state. So, what's the difference between a sole proprietorship and a partnership? Well, this is easy. A sole proprietorship is one person engaged in a business for profit. A general partnership is two or more people engaged in a business for profit. That's the main difference. Now obviously, when you add more people, you add more complexity. So, sole proprietorships are really easy to understand because it's just one person. Partnerships become more complicated because you have to talk about the relationships between the owners of this business. So, let's start easy and talk about sole proprietorships. What are the pros, what are the cons of a sole proprietorship? Now, the pros of a sole proprietorship is that it's super easy. If you're just one person and you start selling something to other people, you're a sole proprietorship. You don't have to do anything. You don't have to file anything with anybody. You don't have to get approval. You don't have shareholders that have to vote on anything. Nothing. You just start doing business and you're automatically a sole proprietorship. Super easy. Super cheap to create. There's no filing fees, you don't need to have to see a lawyer. None of that stuff. You don't have to pay double taxation, as we'll see in future lessons, some types of business entities are subject to double taxation. Not so is sole proprietorships. All of your income goes straight on your personal income tax return. And as the owner of a sole proprietorship, you have complete control. There's nobody else telling you what to do with your business but yourself. So, those are pretty attractive, right? It's easy, it's cheap, you have tax advantages, you have complete control. Why wouldn't everybody form a sole proprietorship? Well, there's one giant con that's usually in most situations makes a sole proprietorship a bad idea. And that giant negative is unlimited personal liability. If you have a sole proprietorship, all of the businesses debts and obligations are your personal debts and obligations. There's no separation. You are the business. Therefore, if the business gets sued for injuring someone, or for breaching a contract, or for a slip and fall, or whatever, you are personally liable for that, meaning your house is at stake, your car is at stake, your savings accounts are at stake. You could be forced to go into personal bankruptcy. This is a giant negative for sole proprietorships. That's why when I was practicing law I almost always advise people to never form a sole proprietorship. Unlimited personal liabilities, something you want to avoid if at all possible. And that's really all I have to say about sole proprietorships. They're not complicated, they're pretty easy to understand. So, let's move into partnerships. Partnerships get a little more complex because you got more people, you got to talk about how they relate to one another, and every state has adopted a statute that governs how partnerships work. Now, it's usually one of two statutes. It's either the Uniform Partnership Act or the Revised Uniform Partnership Act, UPA, and RUPA as they're called. And depending on which one of these acts your state has adopted, the rules might change a little bit. What we're going to talk about in this lesson and future lessons are sort of general rules, but as always, if you want a formal partnership, it's a good idea to talk with an attorney in your state who knows the specific rules in your state. But a couple of big concepts that are important to know for partnerships. You have more than one person so you need to have an agreement as to how this thing operates. How do we divide up the money in all this? Who has the management rights? So all those kind of stuff, that's called a partnership agreement. Every partnership should have one. Can you get by with not having one? You can, but it's a good idea to have a written partnership agreement. The other big concept about partnerships that applies to all partnerships is that they also have what's called flow-through taxation. All the profits made by the partnership itself, the taxes on those profits are not paid by the partnership. The profits flow through to each individual partner and the partners claim them as in personal income on their income taxes, and pay taxes on them that way. So, again, there's no double taxation for partnerships just like sole proprietorships, which is a good thing. Now, the negative for partnerships is the same negative for sole proprietorships and that's that there is unlimited personal liability for partners in a general partnership. And it actually is even a little worse because not only is there unlimited personal liability for each partner, there's this idea called joint and several liability. Now joint and several liability means that every partner is liable for the entire amount of all partnership debts. So, say, for example, we have a partnership in you and three other people. So there's four partners in your partnership. One of your partners goes and takes out a loan for a million dollars and then the partnership can't pay back the loan. Now, who has to pay that million dollars back? Well, anybody. The bank or whoever lends the money can sue you, or another partner, or all four of you, and whoever has the money to pay, can be forced to pay. Now, you can always go back to your other partners and say, "Hey, I paid more than my fair share, please reimburse me." But if they don't have the money, you could be stuck having to pay the entire amounts without them paying any. That's joint and several liability. So, there's a lot of risk. You need to really, really trust the people with whom you form partnerships. So, to wrap up this lesson, one more little concept that goes along with this idea of partnership liability and that's question of, what is a partner liable for when they join a pre-existing partnership? And what are they liable for when they leave a partnership? So, in general, if you join a partnership, so say I'm a lawyer. There's a law firm that's a partnership that already exists out there in the world. I come in and I join it as a partner. They have some debt, some obligations that existed before I came along. I'm not liable for those. When you're an incoming new partner, you are not liable for any pre-existing debts. But, anything that happens while you're a partner, you remain liable for even after you leave. So, if I become a partner in an organization, and we take out a loan for a million dollars, and then I leave and I'm no longer a partner and then in six months, they default on that loan for a million dollars. I could still be liable for that personally because the debt was incurred while I was a partner. So, this is again, you got to be really, really careful with whom you enter into partnerships because you have personal liability. Now, as we move on to future lessons, we're going to see some other types of partnerships, and some other forms of business organizations that limit this personal liability, that are usually a better idea than a sole proprietorship or a general partnership.