What is a Legal Entity? Definitions, Types, and Examples

A legal entity is a separate legal person from its owners or members that must fulfill legal responsibilities per local, state, or federal authorities. A legal entity can own property, enter into contracts, sue, and be sued. Let’s dig deep into the definition, types and management of legal entities.

Legal Responsibilities and Obligations

As a registered legal individual, an entity has specific responsibilities and obligations:

• Tax obligations: Legal entities must file tax returns, pay taxes, and comply with tax regulations.
• Regulatory compliance: Legal entities must comply with industry-specific regulations and obtain necessary licenses to operate lawfully.
• Financial reporting: They must maintain accurate financial records and statements.
• Legal compliance: They must obey all applicable laws and regulations, including contract law, employment law, and consumer protection laws.

Types of Legal Entities

The type of legal entity people choose will significantly impact their business structure, liability, and tax obligations. Depending on the same, it will be quite natural to have more than one owner. For example, some types of business structures can have a large number of shareholders who own parts of the firm. Here are some common types of legal entities:

Sole Proprietorship

A sole proprietorship is the simplest legal entity; a business structure where the owner and the business are legally indistinguishable. While it is easy to set up, the owner assumes full personal liability for the business's debts and obligations. Examples include a freelancer or an electrician.

Partnership

A partnership consists of two or more individuals who share ownership and profits. Partnerships can be of two main types: general and limited. In a general partnership, all partners share in the management and liability. At least one partner in a limited partnership has limited liability. A typical example can be a law firm.

Corporation

A corporation can be either a public or private legal entity separate from its owners, the shareholders. The most common type of legal entity, it offers limited liability protection to shareholders, but it's generally more complex and expensive to set up and maintain. Examples include Apple and Microsoft.

Limited Liability Company (LLC)

An LLC has the flexibility of a partnership combined with the limited liability of a corporation. It's a popular choice for small businesses due to its simplicity and tax advantages. A consulting firm is a common example.

If you are looking to choose between an LLC and a C Corp, check this out.

Non-Profit Organization

A non-profit organization is a legal entity formed to pursue charitable or socially beneficial purposes. It's exempt from federal income tax but must meet specific requirements. The Red Cross Society is a good example.

How to Form a Legal Entity?

Forming a legal entity involves some basic steps:

1. Verify State Laws

It is important to visit each of the state government’s websites to find out the prevailing laws that will govern the business.

2. Choose Your Business Form of Organization Wisely

The structure people select for their business, whether a sole proprietor or a member of an LLC, determines how they declare income, their exposure to personal liability, and the ways available to them to access capital.

3. Drafting Contracts for Shareholders/Owners or Directors.

In case the organization has shareholders, owners, or board of directors, prepare contracts that outline each one’s responsibilities and distribution of profit among the parties. This is legally required in most cases.

4. Register Your Business

To be legal within the laws of the state, it is required to register the business and submit articles of incorporation or equivalent paperwork to the Secretary of State, depending on the form of business entity desired.

5. Make Sure You Have the Necessary Permits or Licenses

Various categories of enterprises call for different permits and licenses to run. To completely comply with the set laws, verification of the federal laws as well as the state laws is needed.

6. Register for an Employee Identification Number (EIN)

An EIN is just like a social security number issued to businesses. Businesses must file with the Internal Revenue Service (IRS). You will have to register for taxes and might need a business banking account.

Choosing The Right Entity for Your Business

The right legal entity is essential for making business decisions, tax efficiency, and growth. Factors like asset protection, tax strategies, and attracting investors should be considered when selecting an entity.

Legal Considerations and Requirements

One must take sound legal advice to ensure they comply with all applicable laws and regulations. This includes:

• Specific rules and procedures for your chosen entity type
• Necessary documents for partnerships and LLCs
• Governing documents for corporations
• Filing requirements and deadlines
• Understanding legal implications of contracts

Feeling lost? Let Commenda’s best lawyers handle your business’ legal matters! Book a demo now.

Personal Liability and Legal Entities

Personal liability refers to an individual's legal responsibility for a business's debts and obligations. If a business faces financial difficulties, lawsuits, or other legal troubles, the owner's personal assets may be at risk to satisfy these claims. 

Let’s find out ways to safeguard your personal finances.

Limited Liability

Corporations and LLCs offer owners limited liability. This means that the business's debts and liabilities are generally separate from the owners' personal assets. If the business fails or is sued, creditors cannot typically seize the owner's personal property.

However, in certain cases, courts of law may disregard the corporate entity and hold shareholders personally liable for the company's debts. This is also called "piercing the corporate veil”, and can happen when:

• Commingling of personal and corporate funds: If the owner treats the business's money as their own.  
• Undercapitalization: If the company is inadequately funded, it can be seen as a sham.
• Fraud or illegal activities: Engaging in fraudulent or illegal activities.  

Sole Proprietorships and General Partnerships: Unlimited Liability

General partners and sole proprietors carry unlimited personal liability, their personal assets are at risk for any business debts or legal judgments and can be seized for the same.

Hybrid Entities

Some states offer hybrid entities, such as Limited Liability Partnerships (LLPs), that provide limited liability for partners. However, the specific rules and protections vary by state.  

It's crucial to consult with an attorney to fully understand the personal liability implications of different legal entity structures to protect your assets. Connect with the best lawyers in the field RIGHT NOW!

Technology and Legal Entity Management

Whether you are in charge of several organizations or simply one, legal entities do not run themselves!

Of course, the roles and obligations depend on the location of the legal entity and definitions incorporated. However, you will be certain that every legal entity type will need to file some kind of report to the regulators, or government agencies at least periodically – by annual accounts, monthly taxes, or confirmation of directors’ information.

Commenda understands that it can be cumbersome to track all regulatory compliance obligations of your legal entity, especially when one operates several entities under a single corporate umbrella.

The best way of managing a legal entity is to use technology in your entity management and governance. Commenda’s tool enables digitization, assisting in setting legal entities anywhere in the world, and helping you manage your global entities from a unified dashboard.

‍Request a demo to learn how Commenda’s entity management software can maintain your legal entities in the best possible status.