Starting a business involves making a series of decisions, from choosing the type of business activity and the way in which the business will be organised, to regulating relationships with business partners and employees. One of the first questions to be addressed is the choice of legal form, i.e. whether to operate as an entrepreneur or establish a limited liability company (hereinafter: the “LLC”).
According to the latest data published by the Serbian Business Registers Agency (APR), approximately 389,000 entrepreneurs and approximately 134,000 companies are registered in Serbia. These figures provide a general overview of the prevalence of different forms of business organisation, but in themselves do not indicate which form is appropriate for a particular business activity or business model.
Accordingly, the answer to the question of whether it is preferable to operate as an entrepreneur or through an LLC depends on the specific business, the risks it entails and the plans of its owner.
1./ An entrepreneur and an LLC are not the same
In order to make an informed decision, it is first important to understand that an entrepreneur is a legally capable natural person who conducts business activity for the purpose of generating income and who is registered as such in accordance with the Law on Registration. Unlike an entrepreneur, an LLC is a company, i.e. a legal entity that acquires legal personality upon registration with the competent register (APR).
This distinction is important because, in the case of an LLC, there is a clear separation between the company and its members. The company conducts business in its own name, acquires rights and assumes obligations, while its members hold interests in the company’s share capital.
In the case of an entrepreneur, there is no such separation in the same sense. An entrepreneur is a natural person who directly carries out the business activity, which is particularly reflected in the rules governing the entrepreneur’s liability for obligations arising from the business.
2./ Who is liable for debts and whose property is it?
One of the most important differences between an entrepreneur and an LLC concerns liability for obligations arising in the course of business.
An entrepreneur is liable for all obligations arising in connection with the conduct of the business activity with his or her entire property, including property acquired in connection with the conduct of the business. Such liability does not cease merely upon the deletion of the entrepreneur from the register.
In the case of an LLC, a different general rule applies. The members of an LLC are not liable for the company’s obligations, except in cases specifically provided for by law. One such case arises where a member abuses the principle of limited liability, i.e. where the corporate veil is pierced in a manner that may constitute grounds for the member’s personal liability.
It is therefore important not to regard limited liability in an LLC as absolute protection against every business risk. It constitutes the general rule of liability, subject to the exceptions provided by law.
In the case of an LLC, it is also important to distinguish the company’s assets from the assets of its members. Property belonging to the company constitutes the property of the company as a legal entity, while a member holds an interest in the company but is not the direct owner of the property belonging to the company. The fact that a person is the sole member of an LLC does not mean that the company’s assets constitute that person’s personal property.
3./ What if several people are starting the business?
Where a business is being started by several persons, the relationship between them becomes just as important as the choice of the legal form itself.
An entrepreneur, by its nature, represents a business operated by a single natural person. An LLC, on the other hand, may have one or more members, with the relationships among the members and their relationships with the company being regulated in accordance with the law and the founding act.
In such circumstances, it is not sufficient merely to agree on the ownership percentages, i.e. the amount of each member’s interest and contribution. It is also important to regulate in advance the manner in which the company will be managed, the decision-making process, matters requiring the consent of the members, the possibility of transferring interests, as well as the arrangements to apply if one of the members wishes to withdraw from the company or if disagreements arise between the members.
4./ Who manages the business?
There are important differences between an entrepreneur and an LLC in terms of the organisation and management of the business.
An entrepreneur is a natural person who directly carries out the registered business activity and organises the business. An entrepreneur may, by written authorisation, entrust the management of the business to a legally capable natural person, who must be registered as a manager and, as a rule, must be employed by the entrepreneur.
In the case of an LLC, it is important to distinguish membership in the company from the position of director. A member holds an interest in the company, whereas the director represents the company and conducts the company’s business in accordance with the law, the founding act and the decisions of the competent corporate bodies. The same person may simultaneously be the sole member and the director, but membership in the company and the position of director are not the same legal position.
5./ What if you later want to bring in a partner?
One of the important characteristics of an LLC is the possibility of changing its ownership structure through the transfer of interests. An interest in an LLC may, as a general rule, be transferred unless otherwise provided by law or the founding act, while the law also regulates the pre-emption rights of other members in certain circumstances.
Accordingly, when planning the admission of new members, it is necessary, in addition to the transfer or acquisition of an interest itself, to consider matters such as management, voting rights, decision-making and the relationship between existing and new members.
By contrast, where an entrepreneur wishes to bring in a partner after operating the business for a certain period, a change of legal form must be considered, since an entrepreneur does not constitute an ownership structure with multiple members.
6./ What if you want to change the ownership structure, sell the business or cease operations?
It is useful to consider the manner in which one may exit the business and possible changes to its structure already at the time the business is established.
In the case of an LLC, one possible transaction is the transfer of an interest in the company, while the company itself continues to exist as the same legal entity. This may be particularly relevant where the company has long-term contracts, employees, assets, business relationships and other elements that collectively constitute its existing business.
Cessation of business operations, however, is different from a change in the ownership structure. In the case of an entrepreneur, cessation of business activity may be completed by deletion from the register, while an entrepreneur may also decide to continue carrying on the business in the form of a company. In the case of an LLC, the company ceases to exist upon deletion from the Companies Register, which may follow completion of liquidation or compulsory liquidation proceedings, bankruptcy proceedings, or a status change resulting in the termination of the company.
The choice of legal form is therefore not necessarily final. An entrepreneur may decide to continue carrying on the business in the form of a company. In such a case, the entrepreneur is simultaneously deleted from the register and the incorporation of a company is registered, with that company assuming the entrepreneur’s rights and obligations arising from the business up to the time of its incorporation. However, a change of legal form does not mean that the natural person’s liability for obligations arising in connection with the conduct of the business up to the time of the entrepreneur’s deletion from the register ceases.
For this reason, any change of legal form requires a prior analysis of the specific business, including existing contracts, assets, employees, obligations and relationships with business partners.
Conclusion
The choice between operating as an entrepreneur and through an LLC is not merely a question of the form in which the business will be registered, but a decision concerning how the business will be structured and developed. The legal form should therefore not be selected according to a general rule or based on someone else’s experience, but in light of the specific manner in which the business will operate, the risks it entails and the owner’s plans for the future.