"I recently started my own business." "Oh, no, I work for myself, these days." "I'm a self-made entrepreneur."

These and other phrases sure feel good, rolling off our tongue. After all, that's what we are all striving for: Independence and financial freedom from the corporate rat race.

However, with great freedom comes great responsibility, and in some instances, great personal risk. So why add unnecessary risk by using a dangerous and ineffective corporate entity for your business?

Sole Proprietorships and General Partnerships. On the surface, both sound legitimate and proper, but in fact, each entity strikes a very sour note.Sole Proprietorships

Say you operate a one-man plumbing business. You didn't have a lot of money when you started out, so you decided to forego the filing fees to incorporate and operate instead as a sole proprietorship. You have a good relationship with your customers, do quality work, and your business is growing.

In order to satisfy customer demand, you hire an assistant. As an employer, you are completely responsible for any and all actions taken by this employee. As a sole proprietor, however, you are also liable for any damages or claims arising from his actions.

If he were to steal from a customer while in their house, you would be liable to pay for all goods stolen. If he did substandard work and caused extensive flooding or structural damage to a home, you would be responsible for paying to have all problems fixed. Anything he does on the job is your problem.

Without the shield of a corporate entity creating a distinction between you and your company, one problem or lawsuit might be all it takes to bankrupt you and your family.

Additional Risks

There are two other problems with sole proprietorships. The sale of your business, as a sole proprietorship, is much more difficult than the sale of an incorporated entity.

The value of your business is based on you, as the owner, and not on the business. Your business might be doing quite well and making a profit, while you personally are digging out from some personal debt or liabilities. Those personal debts and liabilities will be subtracted from the profits your business is making, which can cause it to be undervalued.

The second problem is the death of the owner. When you die, your business dies, no matter how well it has been doing. Your family can't sell your business as a going concern, because YOU were the going concern, not the business.

General Partnerships

Thought a sole proprietorship was bad? A general partnership is actually worse. You have twice the personal exposure -- personal liability for not only your own acts but for those of your partners as well.

As with a sole proprietorship, no documents need to be filed to form a general partnership. Two or more persons (you can have as many as you like) agree to share profits, shake on it, and that's it -- a partnership has been formed. Even if you never sign a partnership agreement, state law provides that under such circumstances you have formed a general partnership.

If you haven't signed a partnership agreement, then you will be subject to your state's applicable partnership law. This may not be to your advantage since such general rules rarely satisfy specific situations. As an example, most states provide that profits and losses are to be divided equally among the partners. If your oral understanding is that you are to receive 75% of the profits, state law and your handshake will not help you. You are better advised to prepare a written agreement addressing your rights and rewards.

The greatest drawback of a general partnership is that each partner is liable for the debts and obligations incurred by all the other general partners. While you may trust the one general partner not to improperly obligate the partnership, the more general partners you bring aboard the greater risk you run that someone will mess up.

And -- as with sole proprietorships -- your personal assets are at risk in a general partnership. Each partner has the right to bind the partnership. One partner can make a foolish business decision that leads to the partnership owing thousands and thousands of dollars.

Because there is no asset protection for you, your house and your life savings are at risk and can be lost, even if you had nothing to do with the decision.

There's More...

Other problems with general partnerships arise when one partner dies, leaves or goes bankrupt. In many states, a partnership is terminated on the occurrence of any of these events, whether there are remaining partners or not.

Partnerships are also very difficult to sell. Most sophisticated businesspersons don't want any part of them, because of the risk and liability exposure.

With so many good entities to choose from that will protect you and your assets, I will not assist clients in forming either a sole proprietorship or a general partnership.

If you already have a sole proprietorship or a general partnership operating, then my advice to you is to change it -- quickly. It's one less risk you have to take.