A sole proprietorship is the simplest form of business entity, involving an unincorporated business that’s owned and operated by a single person (i.e., the sole proprietor).
This type of structure is popular among freelancers, consultants, and small shop owners because of its ease of setup and minimal regulatory requirements. Many small businesses begin as sole proprietorships and continue with this business structure or later grow and become a limited liability company (LLC), partnership, or corporation.
A sole proprietor isn’t required to work by themselves and can hire employees. Sole proprietors might operate under a business or trade name that differs from their personal legal name. If the business name is different, they might need to legally trademark it, with the specific process varying by country.
Sole proprietorships have several notable advantages over other types of business entities.
For example, the business owner has complete control over all business decisions and receives all profits. What’s more, setting up a sole proprietorship is straightforward; there’s no need to file any special articles of incorporation, making it less expensive than other business forms.
Another major benefit of owning a sole proprietorship is that the business isn’t taxed separately. Profits and losses are reported on the owner’s personal income tax returns, simplifying the tax filing process.
Nevertheless, sole proprietorships aren’t without their disadvantages.
To start, the owner is personally liable for all business debts and legal actions. This risk extends to the owner’s personal assets, like their home and savings. Sole proprietors may also find it harder to obtain business loans or attract investors since there’s no distinction between personal and business finances. In addition, if the owner decides to stop working or passes away, the business will typically dissolve.
The rules and steps for establishing a sole proprietorship are going to be different depending on the business owner’s location. To start a sole proprietorship in the US, one must do the following:
- Choose a business name and check for its availability in their state.
- Register the business name if they plan to use a trade name different from their own.
- Obtain necessary permits and licenses from local, state, and federal governments.
- Apply for and secure an Employer Identification Number (EIN) for hiring employees or filing tax returns. However, some sole proprietors may simply use their Social Security Number (SSN). It’s advisable for owners to consult with a tax advisor to decide the best option.
- Register for a sales tax license if taxable products will be sold.
In addition, while having a bank account strictly for business purposes isn’t mandatory with a sole proprietorship, it’s recommended to set up a separate business bank account to help maintain clear financial records. Finally, it’s important to keep track of all business expenses and income for tax purposes, as sole proprietors pay self-employment taxes on their earnings.
These steps ensure compliance with local regulations and facilitate smoother operations for the sole proprietor.
