A sole proprietorship is the simplest and most common structure chosen when starting a business. It is an unincorporated business owned and run by one individual with no distinction between the business and you, the owner. You are entitled to all profits and are responsible for all your business’s debts, losses and liabilities.
Forming a Sole Proprietorship
You do not have to take any formal action to form a sole proprietorship. As long as you are the only owner, this status automatically comes from your business activities. If you are a freelance writer, for example, you are a sole proprietor.
Just like all businesses, you need to obtain the necessary licenses and permits. Regulations vary by industry, state and locality. Look at the list of federal, state and local permits, licenses and registrations that you’ll need to run your business.
If you choose to operate under a name different than your own, you will most likely have to file a fictitious name (also known as an assumed name, trade name, or DBA name, short for “doing business as”). You must choose an original name; it cannot already be claimed by another business.
Sole Proprietor Taxes
Because you and your business are one and the same, the business itself is not taxed separately-the sole proprietorship income is your income. You report income and/or losses and expenses with a Schedule C and the standard Form 1040. The “bottom-line amount” from your Schedule C transfers to your personal tax return. It’s your responsibility to withhold and pay all income taxes, including self employment and estimated taxes.
Advantages of a Sole Proprietorship
- Easy and inexpensive to form: A sole proprietorship is the simplest and least expensive business structure to establish. Costs are minimal, with legal costs limited to obtaining the necessary license or permits.
- Complete control: Because you are the sole owner of the business, you have complete control over all decisions. You aren’t required to consult with anyone else when you need to make decisions or want to make changes.
- Easy tax preparation: Your business is not taxed separately, so it’s easy to fulfill the tax reporting requirements for a sole proprietorship. The tax rates are also the lowest of the business structures.
Disadvantages of a Proprietorship
- Unlimited personal liability: Because there is no legal separation between you and your business, you can be held personally liable for the debts and obligations of the business. This risk extends to any liabilities incurred as a result of employee actions.
- Hard to raise money: Sole proprietors often face challenges when trying to raise money. Because you can’t sell stock in the business, investors won’t often invest. Banks are also hesitant to lend to a sole proprietorship because of a perceived lack of credibility when it comes to repayment if the business fails.
- Heavy burden: The flipside of complete control is the burden and pressure it can impose. You alone are ultimately responsible for the successes and failures of your business.
Explore your options before you start your business to ensure that you are creating a business structure that works for you. In business it is important to constantly weigh out the benefits against the disadvantages and make the appropriate decision to create business success.