Is a Sole Proprietorship Right for You?
Determining the legal form of your business is an important first step
One of the first things you must do when starting a new business is to determine the type of business, or the legal form of your business. This decision requires more than just considering the type of products you may offer or what services may be provided by your company.
The type of business, or business form you choose will have an effect on how much money you can make, how much tax you will pay and if you can be held legally liable for any damages or injuries caused by your business.
Sole Proprietor: A Definition
Some people choose this type of business becasue it is so easy to set up. Essentially, a sole proprietor is you - the sole owner and operator of a particular business. This means you own everything - equipment, property, assets, supplies, etc., and you run the day-to-day operations of the business. You do all the sales, paperwork, pay the taxes, purchase equipment, buy office supplies, make deliveries - all of it.
As a sole proprietor, you can hire people to work for you but you are responsible for their social security and other deductions from their paycheck. You will need an EIN (Employer Identification Number) from the IRS, you will likely need to pay a self employment tax and file quarterly tax reports with the IRS.
Even if you do not choose to function as a sole proprietorship, your clients, vendors, financial and government institutions will likely consider your business to be functioning as this form or type of business. As a matter of fact, if you transact business and accept payment for a product or service, you are technically acting as a sole proprietor anyway.
As with most bsuinesses, there is some paperwork - and, as with most bsuiness types, there are advantages and disadvantages.
Advantages of a Sole Proprietorship
In many states, the only thing you need to form a sole proprietorship is fill out some paperwork and file your business name as a DBA (Doing Business As). Typically, these forms are available online and may be filed with your local municipal or state tax office. In any case, the paperwork is minimal making this type of business easy to set up.
As a sole proprietor, you also get to decide how much and when you are paid. Simply make a "draw" from your account by writing a check to yourself. If you think you need a holiday bonus or some extra cash for expenses, just write a "draw" check. Since all business earnings from a sole proprietorship will be taxed as income, there is no additional bookkeeping paperwork. Any income from your business is simply counted with any other income and filed with your income taxes each year. Be sure to keep a careful record of all your business financial transactions.
For most folks who have a small business that may not be their only source of income, like a craft business or other part-time business, deciding to go with a sole proprietorship may be the best decision. Depending on the type of business, the paperwork and bookkeeping is easily handled without hiring the services of an accountant. You may want to check with an accountant or bookkeeper if you think you might need assistance with keeping proper financial records. An accountant may also help with completing and filing the proper forms within the prescribed deadlines.
Disadvantages of a Sole Proprietorship
In my experience with owning several businesses and in dealing with other business owners, the biggest disadvantage for a sole proprietor is the lack of protection from personal liability. This simply means that if you or someone working for you causes damage or injury to someone or something while working, you could be held professionally and personally liable. That means you could lose everything - your car, your house, your business, your savings - everything.
Her is an example; a friend of mine who operated a sole proprietor wedding planner business was working on site setting up for a wedding at a local church one weekend. During the rehearsal, one of the members of the wedding party got her foot tangled up in the ribbons of a flower stand causing her to fall and break her arm.
The wedding planner was sued for damages, medical bills and charged for the plaintiff's legal fees. While she did not lose everything, this single incident put her out of business permanently. Sadly, with a sole proprietorship, there is no protection from these type of incidents and the owner may be forced to take financial responsibility.
The good news is that some insurance carriers will provide a limited liability insurance policy to help protect you against such accidents, however, these policies can be rather expensive.
Sole Proprietor: Yes or No?
If a sole proprietorship is so exposed to damage and liability, then why do so many people choose this type of business form? Well probably because it is just so easy to start up.
Fact is, most businesses of this type are just folks running a tiny business that really doesn't make a lot of money anyway. The sole proprietorship is best for folks who sell crafts on Etsy® or some other type of online store or for people that provide products or services that really aren't likely to cause much or any damage.
It comes down to your decision about your business. From my own personal experience with owning businesses myself and with other business owners, a sole proprietorship can work for some folks in certain situations. Other business types to consider would be an LLC (Limited Liability Corporation), Subchapter S Corporation or C Corporation just to name a few. Each type of business has it's own unique advantages and disadvantages.
I suggest that you sit down with a business attorney or accountant and discuss the different types of business options before you start your business. I hope this article has been informational and helpful in making your decision to choose the best business type for your start-up business.
The information in this article is intended for informational purposes only and not for the purpose of providing legal advice. You should contact your attorney, accountant or financial advisor to obtain advice with respect to any particular issue or problem.