Legal structure
Choosing a legal structure: liability, capital, admin
General information on the law in Germany (as of August 2026), not legal advice. Other countries regulate this differently.
The legal structure is a cost decision, not a status decision. Four questions settle it: how large is the biggest harm your work could cause, are there several of you, do you need to issue shares, and what does the structure cost every year with no revenue. Anyone starting alone with a modest risk is usually right with a sole proprietorship, and insurance often deals with the exposure more cheaply than a company would. A company earns its running cost when the exposure exceeds your private assets, when ownership has to be split, or when buyers cannot purchase from an individual. And limited liability ends at the first personal guarantee.
A cost decision, not a status decision
Most founders approach the question from the wrong end. They ask which structure looks serious, and end up paying for formalities before anybody has bought anything. The useful question is narrower: what could go wrong, what would that cost, and what am I willing to pay every year to cap it.
The second cost is the quieter one. Every structure above the simplest brings a permanent tail: separate books, an annual filing, an accountant. That tail arrives in the years with no revenue too, and it is what makes founders abandon a company after eighteen months. The graphic below shows what is actually at stake, which is the part the choice turns on.
What a creditor can reach
Sole proprietorship
business assets and personal assets, with no ceilingThe car, the savings and future earnings are part of it.
General partnership
the personal assets of every partner, with no ceilingIncluding for what a partner did without you.
Limited liability company
the assets of the company onlyWhich, in a company funded out of pocket, is often very little.
Corporation
the assets of the company onlyUsually better capitalised, and built for issuing shares.
The line is real, and it has two doors: a personal guarantee, and your own breach of duty as a director.
The bar widths illustrate exposure, they are not measurements. What matters is the difference between the top two rows and the bottom two.
Four questions that settle it
Answer them in this order. The first two decide whether you need a liability line at all; the last two decide whether you can afford one.
1How large is the biggest harm your work could cause?
Not the most likely one, the biggest one. A mobile bike workshop that fits a brake badly is in a different order of magnitude when somebody is injured than when a frame gets scratched.
If that amount is more than you could absorb privately and cannot be insured, it argues for a limited-liability structure.
2Are there several of you, and are the shares unequal?
In most countries two people running a business together form a partnership automatically, with no contract and without intending to. Default law then decides how profits and votes are split, and it rarely matches what either of them had in mind.
From two people onwards you need a written agreement either way. If shares are unequal or meant to change later, a company is the cleaner frame.
3Do you need outside money, or do you want to issue shares?
Investment, employee ownership and bringing in a partner all require transferable shares. A sole proprietorship has none.
Anyone raising capital in exchange for ownership needs a company. For a plain bank loan that is not the case.
4What does the structure cost every year, even with no revenue?
Formation happens once, bookkeeping does not. A company usually means full accounts, an annual filing, a registered agent or address, and in practice an accountant.
Budget a four-figure sum per year before the first unit is sold. That number decides the question more often than liability does.
The four structures, and what each one cannot do
Sorted by effort, lowest first. Every entry names its limit explicitly, because that is the part comparison tables leave out.
Sole proprietorship
Liability: Unlimited, against everything you own privately.Suited to
For anyone starting alone whose work cannot cause large harm and who is not raising money in exchange for ownership. That is the starting position of the great majority of new businesses.
Setting it up
In most places a local registration and a tax registration, sometimes nothing beyond declaring the income. Cost is typically nominal. Regulated trades and professions add a licence on top.
Running effort
The lowest of all structures. Income and expenses on your personal tax return, no separate entity return, no annual filing fee in most places.
A single large claim reaches your private assets. And there are no shares to transfer: anyone joining can only buy the individual assets.
General partnership
Liability: Every partner is personally liable in full, including for what the others did.Suited to
For two or more people with a shared purpose and modest risk. It is less a choice than the state that arises anyway as soon as two people run a business together.
Setting it up
Usually informal, created by the joint activity itself. Some jurisdictions offer a registration; most do not require one.
Running effort
Close to the sole proprietorship, doubled: one joint profit calculation, then each partner taxed personally.
Without a written agreement, default law decides profit shares, votes and how somebody leaves. Rely on it and you will be negotiating at the moment the relationship is already damaged.
Limited liability company
Liability: Limited to the assets of the company.Suited to
For anyone who needs the liability line but does not need shares that investors recognise. In many countries this is the default choice for a small operating business.
Setting it up
A filing with the registry, a modest fee, and in most cases an operating agreement between the owners. Some places also require an annual report and a registered address.
Running effort
Separate books and a separate bank account, an annual filing, and in practice an accountant. Profits are usually taxed at the owners rather than the company, but that varies and can often be elected.
Formed on a shoestring means very little stands behind the liability line. Banks, landlords and suppliers know it and ask for a personal guarantee, which removes the limit for exactly those contracts. And the annual cost arrives in a year with no revenue too.
Corporation
Liability: Limited to the assets of the company.Suited to
For ventures with real liability exposure, several owners, or outside capital. Also for selling to large buyers whose own rules often prevent them from buying from an individual.
Setting it up
A filing, a set of bylaws, shares issued to the founders, and formalities that continue: a board, minutes, resolutions.
Running effort
The highest. Full accounts, an entity tax return, annual filings, and the standing formalities. Profits are typically taxed at the company and again when they are paid out, unless an election avoids it.
The formalities are not decoration. Skip them, mix company and private money, and a court can set the liability line aside. Directors also stay personally liable for their own breaches of duty, unpaid payroll taxes among them.
Side by side
The same four structures in one view. Figures for formation vary by jurisdiction; treat them as an order of magnitude.
| Structure | Capital | Setup | Liability | Annual effort |
|---|---|---|---|---|
| Sole proprietorship | none | nominal | unlimited | low |
| General partnership | none | nominal | unlimited, joint and several | low |
| Limited liability company | none required in most places | filing fee, varies widely | company assets only | medium |
| Corporation | shares issued to founders | filing fee plus bylaws | company assets only | high |
The sequence, from risk to registration
Two to four weeks in total, most of it waiting. The order matters more than the pace, and step 2 saves more money than the other three together.
Write down the biggest harm you could cause
1 hourThree lines will do: what can go wrong, who it hits, and what it costs in the worst case. If you cannot put a number on it, you have not finished thinking, because customers, clients and insurers will do it for you later.
Result: an amount the decision can be measured against.
Check whether insurance covers the same event
1 dayGeneral or professional liability cover often addresses precisely the loss the liability limit was meant for, at a fraction of the annual cost of running a company. The two are not alternatives, but the order matters: insurance pays the claim, the structure only limits what a creditor can reach afterwards.
Result: two quotes and an answer to whether the structure is the right lever at all.
Put the annual cost of both options side by side
2 hoursOn one side: bookkeeping, annual filings, registered address and accountancy for a company. On the other: a personal tax return and the insurance premium. The difference is the price of the liability line, and it falls due every year regardless of revenue.
Result: one figure per year to hold against the amount from step 1.
Register in the right order
1 to 3 weeksSole proprietorship: local registration, then the tax registration. Company: the filing first, then the bank account in the company name, then any licences, then the tax registrations. Reverse it and you are registering a business that does not legally exist yet, and a bank account in the wrong name is tedious to unwind.
Result: a tax number, a registry entry and an account in the correct name.
Every office in that sequence, in order, with the deadlines: registering a business step by step →
What changes for tax
The dividing line runs between structures taxed at you and structures taxed at themselves. Sole proprietorships and partnerships pass their profit to the owners, who pay personal income tax on it whether or not the money was withdrawn. A company pays tax on its own profit first, and what it distributes is taxed again in the owner's hands. That second layer is why a company only pays off when profits genuinely stay in the business.
Two details are worth knowing before the choice, not after. Local business taxes often grant an allowance to individuals and partnerships that companies do not get. And thresholds for simplified VAT treatment usually attach to turnover, not to the structure, so switching does not change them.
None of this replaces a conversation with an accountant before you file. It is meant to stop you paying for a structure whose tax advantage only exists on paper.
What a structure does not fix
A liability limit answers one question: who pays after something has gone wrong, and up to what amount. It answers nothing else. Insurance decides whether the claim gets paid at all. An agreement between owners decides what happens when one of them leaves. A separate business account decides whether the line survives a court's attention. Each of the three is cheaper than the structure and gets skipped more often.
General orientation, not legal or tax advice. Structures, names, thresholds and fees differ by country and, in the United States, by state, and they change. Check what applies where you register.
Five mistakes that cost real money
Four of them are expensive in cash, the last one in exposure. All five are common enough to be worth naming.
Forming a company as a business card. The suffix looks respectable and costs a four-figure sum a year before the first customer arrives. Customers ask for references, not for the legal suffix. If you want to buy trust, buy liability cover.
Treating limited liability as absolute. The first bank guarantee, the first personal covenant a landlord asks for and every breach of duty as a director cut straight through it. It protects you from accidents, not from your own signature.
Starting as two people without an agreement. The partnership forms itself, with full personal liability for both and a default split nobody agreed to. Two pages of paper up front save the argument about shares, exits and the customer list.
Choosing a structure instead of insurance. A liability limit is not cover: it only means the company pays until nothing is left. The customer is still harmed and the business is gone.
Deferring the decision until the first order arrives. Liability starts with the first work delivered, not with the registration. Converting later is possible, but it costs fees, paperwork and, in the wrong circumstances, tax on gains that only exist on paper.
Frequently asked questions
Which structure suits a solo founder with no capital?
In most cases the sole proprietorship. It costs next to nothing to set up, requires no capital, is reported on your personal tax return and can be converted later. Only one thing argues against it: an exposure larger than your private assets that cannot be insured. Then a company is worth its running cost, even at the start.
When is a company worth it?
When one of three conditions is true. First: the biggest plausible harm exceeds your private assets and is not insurable. Second: you want to issue shares, to co-founders, employees or investors. Third: your buyers cannot purchase from an individual under their own rules, which is common with large companies and public bodies. A revenue figure is deliberately not on the list. The widely quoted profit threshold at which a company becomes tax-efficient only holds if profits actually stay inside the business.
What does forming a company really cost?
The filing fee itself is usually the small part, and it varies enormously by jurisdiction. The larger and more permanent cost is the running one: separate books, an annual filing, a registered address and, in practice, an accountant. Budget for that annual figure rather than the formation fee, because it arrives every year, including the ones with no revenue.
Can I change the structure later?
Yes, and that is the normal path. Converting from a sole proprietorship into a company means transferring the business into it, with paperwork and a valuation. It costs more than the first setup but it is predictable. Going the other way is possible and more awkward. In practice: take the smallest structure that carries your risk, and change when a reason appears. Not before.
Does limited liability really hold?
In principle yes, with three exceptions that tend to cover exactly the contracts that matter. First, the personal guarantee banks and landlords routinely ask for. Second, a director's liability for their own breaches of duty, unpaid payroll taxes and filing an insolvency too late among them. Third, mixing company and private money, which can persuade a court to set the line aside. It protects you from commercial bad luck, not from your own signature and not from your own omissions.
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