A sole proprietor, also known as a sole trader, is somebody who owns an unincorporated business with just one owner.
With the sole proprietorship business structure, there is no legal separation between the owner and the business entity. A sole proprietor pays personal income tax on any profits earned from the venture and is personally liable for anything connected to the business. This includes being responsible for all business debts, liabilities, and losses.
Sole proprietors don’t have to file any paperwork or pay fees to create a business. Compared to other business structures, such as a limited liability company (LLC) or a corporation, a sole proprietorship is easier and less costly to set up, making it a popular choice for new small business owners. Any new single-owner business is automatically treated as a sole proprietorship.
Sole proprietors can use their own name or register a separate business name for their entrepreneurial venture. If they don’t want to share their Social Security number with clients, they can easily obtain an employer identification number to use instead.
In addition, they can hire employees, own multiple sole proprietorships, and combine their personal and business funds and property. However, it’s generally best to have separate bank accounts for business and personal needs so as to facilitate accurate tracking of business revenue and expenses for tax purposes.
Because the business owner and the business aren’t considered separate entities with this structure, filing income taxes as a sole proprietor is a relatively straightforward process.
The sole proprietor will report their business income, i.e., profit less expenses, to the Internal Revenue Service (IRS) using the Schedule C for Form 1040. Besides paying federal and state taxes, the business owner will need to pay self-employment taxes, using Schedule SE, which include payments for Social Security and Medicare. Sole proprietors must also pay half of the Social Security and Medicare taxes for any employees working for them.
Although sole proprietors must file a personal income tax return by the same date in April every year as individuals who don’t own a business, the IRS states that they should make estimated quarterly payments instead of paying a single lump sum. This allows them to avoid paying fees and having to take care of a huge tax bill when the annual tax deadline comes around.
