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APPENDIX 1A: TYPES OF BUSINESS ENTITIES

This textbook emphasizes accounting for prot-making business entities. The three main types of
business entities are sole proprietorship, partnership, and corporation. Specic aspects of the three types
of business entities are compared in Exhibit 1.9. A sole proprietorship is an unincorporated business
owned by one person; it is usually small in size and is common in the service, retailing, and farming
industries. Often the owner is the manager. Legally, the business and the owner are not separate entities.
However, accounting views the business as a separate entity that must be accounted for separately from
its owner.
Exhibit1.9 Comparison of Three Types of Business Entities

d
Exhibit 1.9
Comparison of Three Types of Business Entities

Proprietorship

Partnership

Corporation

Number of owners

One owner

Two or more owners Many owners

Legal status of entity

Not separate from

that of its owner

Not separate from that Separate legal entity

of its owners

Responsibility of owners for

debts of business entity

Unlimited legal
liability

Unlimited legal
liability

Accounting status

Each entity is separate from its owners for accounting purposes.

Owners' liability limited to

their investment

A partnership is an unincorporated business owned by two or more persons known as partners. Some
partnerships are large in size (e.g., international public accounting rms and law rms). The agreements
between the owners are specied in a partnership contract that deals with matters such as division of
prot among partners and distribution of resources of the business on termination of its operations. A
partnership is not legally separate from its owners. Legally, each partner in a general partnership is
responsible for the debts of the business (each general partner has unlimited liability). The partnership,
however, is a separate business entity to be accounted for separately from its several owners.
A corporation is a business incorporated federally under the Canada Business Corporations Act or
provincially under similar provincial acts. The owners are called shareholders or stockholders. Ownership
is represented by shares of capital that usually can be bought and sold freely. When an approved
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application for incorporation is led by the organizers, a charter is issued by either the federal or the
provincial government. This charter gives the corporation the right to operate as a legal entity, separate
from its owners. The shareholders enjoy limited liability. Shareholders cannot lose more than they paid
for their shares. The corporate charter species the types and amounts of share capital that can be issued.
Most provinces require a minimum of two shareholders and a minimum amount of resources to be
contributed at the time of organization. The shareholders elect a governing board of directors, which in
turn employs managers and exercises general supervision of the corporation.
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Members of the board of directors, executives, and ofcers of companies, as well as employees do not
enjoy limited liability for any damage caused by their willful wrongdoing. Because a corporation is
considered a legally separate entity, directors and executives may nd themselves being sued for damages
by their employer. Accounting also views the corporation as a separate business entity that must be
accounted for separately from its owners.
In terms of economic importance, the corporation is the dominant form of business organization in
Canada. This dominance is caused by the many advantages of the corporate form: (1) limited liability for
the shareholders, (2) continuity of life, (3) ease in transferring ownership (shares), and (4) opportunities to
raise large amounts of money by selling shares to a large number of people. The primary disadvantages of
a corporation are (1) loss of control by shareholders, (2) complex reporting procedures for a variety of
government agencies, and (3) potential for double taxation of earnings (they are taxed when they are
earned and again when they are distributed to shareholders as dividends). In this textbook, we emphasize
the corporate form of business. Nevertheless, the accounting concepts and procedures that we discuss also
apply to other types of businesses. The main differences among these three types of entities appear in the
equity section of the statement of nancial position.

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