What are the Advantages and Disadvantages of a Corporation?
Posted on May 27th, 2021
Corporation | Advantages and Disadvantages of a Corporation
What do you mean by Corporation?
A corporation is a legal body formed by individuals, stockholders, or shareholders to operate for profit. Corporations can make arrangements, prosecute and be sued, own properties, pay federal and state taxes, and borrow money from financial institutions.
A corporation is formed by the legal procedure known as incorporation, in which legal documents containing the primary intent of the enterprise, its name, and location, as well as the types of stokes and number of shares issued, are drafted.
The incorporation process provides the business entity a distinct function that shields its owners from criminal liability in the case of litigation or legal argument.
Common types of Corporation
A corporation may be formed by a single shareholder or by a group of shareholders working together to achieve a shared purpose. A corporate may be formed as either a for-profit or a non-profit organization.
The majority of corporations are for-profit organizations that are organized to generate revenues and offer a return to their shareholders based on their percentage of equity in the corporation.
Not-for-profit groups fall under the class of charitable organizations that are committed to a specific social cause like education, religion, science, or research. Not-for-profit organizations use their incomes to further their goals rather than distributing them to shareholders.
The three main types of business incorporations are:
i. Non-Profit Corporation
Charitable, educational, and religious groups also use this term to work without making profits. A non-profit organization is tax-exempt. Any contributions, gifts, or income collected by the agency are kept and used for operations, extension, or future plans.
ii. C Corporation
C Corporation is the most common form of corporate incorporation which incorporates nearly all of the characteristics of a corporation. Profits are distributed to owners, who are taxed as individuals, while the corporation is taxed as a corporate organization.
iii. S Corporation
S Corporations are formed in the same manner as a C Corporation, but they vary in terms of owner restriction and taxation. An S Corporation is made up of 100 shareholders and is not charged separately; rather, the profits/losses are borne by the shareholders on their personal income tax returns.
Advantages of Corporations
Some advantages of corporations are listed below:
In most situations, a corporation’s management would be different from its shareholders. This can be beneficial to both the corporations and the shareholders. It means shareholders do not require any technological skills or experience to become business owners.
This differs from relationships in which the partners are active in the partnership’s management. Although some partnerships might have partners who do not oversee the partnership, the majority of partners are still engaged in management positions.
It means corporations are not affected by shareholders leaving or purchasing shares. In the same way, corporations should employ professionals for any managerial job to ensure that the corporation’s activities operate as smoothly as possible.
This will also benefit shareholders because expert management ensures that the corporation raises the maximum amount of wealth for its shareholders.
Corporations also have limitless growth opportunities. This is mostly due to the fact that corporations are not reliant on a single owner or a few shareholders for capital needs. A corporation, as previously said, will have an infinite number of shareholders.
Similarly, even though a corporation’s existing shareholders are unable to raise capital to a corporation, it will raise finance by issuing shares to new shareholders. Other types of businesses, like sole proprietorships and corporations, are dependent on the capital invested in them by the original shareholders.
Easy to invest in
Corporations are also less difficult to invest in than sole proprietorships and partnerships. A sole proprietorship requires the business’s single owner to bear all the capital requirements of its activities, making it an expensive and risky investment form.
In case of partnerships, the existing partners can refuse to accept new partners to join, thus, making investment in partnerships difficult. It can also be difficult to locate compatible partners that have the same priorities and expectations for new relationships. Anyone can purchase stock in a corporation from the open market.
As previously said, corporations provide owners with diminished liability. It means if a corporation is liquidated, the shareholders are not entirely responsible for the corporation’s debts.
Its shareholders would only be responsible for the corporation’s debts limited to the value of their shareholding or their capital investment in the corporation. Limited liability companies are more appealing to investors while making an investment in corporations’ guarantees they do not have to pay for any claims that exceed their capital.
This is distinct from other categories of businesses, like sole proprietorships and some types of partnerships. In the event that these businesses fail, the owners are left responsible for all the company’s liability.
This ensures that the owners of an indefinite liability company would have to pay the liabilities of the business from their personal assets.
Corporations are often treated as distinct entities from their shareholders. One of the primary reasons that the corporations have limited liability is for this reason. However, that is not the only benefit of operating as an independent agency.
As an independent organization, corporations can enter into contracts and guarantees, lend and borrow money, spend cash, purchase, own or sell land, and engage into legal disputes. This implies that a corporation does not need its shareholders for these purposes.
Transfer of ownership
Corporations provide an advantage for their shareholders in that they encourage their shareholders to pass ownership without limitations. Shareholders can freely purchase and sell a corporation’s shares in a stock market without requiring prior approval.
To admit a new partner into a relationship, both partners must consent. If any previous partner does not approve of a new partner, the new partner may be unable to join the partnership.
Similarly, it would be beneficial for the corporation. When shareholders buy or sell their shares, the activities of corporations are unaffected. In contrast, if a new partner enters or an existing partner exits a contract, the existing partnership deed becomes null and void.
Any time dynamics of the partnership alter, a new partnership deed is created. Furthermore, corporations continue to survive long after a shareholder leaves, joins, or even dies, which other types of businesses will not be able to do.
Disadvantages of Corporations
Corporations can also be disadvantageous as a business form. Some of the disadvantages are as listed here:
As previously discussed, corporations are subject to higher regulatory requirements than most industries for a variety of reasons. These compliances protect shareholders’ investments in corporations while also benefiting the corporation.
However, this may result in increased operating pressures and expenses for corporations. In the same way, if the corporations fail to comply, they can face fines or legal actions.
As previously discussed, corporations are distinct legal bodies that can be useful for a variety of purposes. However, since a company is a distinct legal body, it must pay taxes. Once a corporation has been taxed, it will return its profits to its shareholders in the form of dividends.
These dividends are then taxable once again by each shareholder. This ensures that earnings made by shareholders through corporations are taxed twice.
One of the problems of corporations is that their management is independent of their shareholders. If management’s goals do not coincide with those of the shareholders, agency issues emerge.
The management of a corporation serves as negotiators for the corporation’s shareholders. If management’s goals do not coincide with those of the owners, agency issues emerge.
Since the shareholders cannot consistently monitor the operations of corporations, it can encourage unethical behavior by the management. Though this has been a dilemma for all companies for a long time, there is no definite solution.
Corporations can be required by statue to conduct audits and follow specific laws and regulations. However, these solutions do not guarantee that there will be no agency issues within corporations.
Difficult to form
Corporations are more complex to establish than most forms of businesses. This is due to the fact that corporations must follow tougher laws than most forms of businesses. Similarly, the original founders of a corporation must go through many phases in order to create a corporation.
These stages can necessitate a number of legal formalities. Furthermore, after a corporation is established, supporting it can be challenging and time-consuming. In general, corporations are more difficult to create and can incur additional expenses for the original shareholders.
Takshila learning helps you understand what a corporation is and also lets you know its advantages and disadvantages. The mentors at Takshila learning make it very simple for the aspirants to move ahead in their life and reach their desired destinations.
Takshila learning lets your feet be firm in the corporate world by providing the perfect knowledge about it
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