The most common small business entity is a sole proprietorship because it is extremely easy and inexpensive to create. A sole proprietorship essentially occurs when you go into business for yourself. While a major drawback to owning a sole proprietorship is the fact that the owner has unlimited personal liability, there are many benefits. Depending on your business and personal preferences, being a sole proprietor may be your best option as the ease with which you can create and manage a sole proprietorship is an extremely important benefit.
What is a Sole Proprietorship?
A sole proprietorship is a business entity that has a single owner, who hires and provides labor through various employment, lease or loan agreements. Since there is only a single owner, there is no sharing of the profits; the owner receives all profits that remain after the business’s operational expenses. The owner also makes all the business decisions. The business remains a sole proprietorship provided the owner remains the only owner of the business.
One of the most attractive benefits of a sole proprietorship is that it is incredibly easy to establish one. Unlike forming a corporation, which requires filing articles of incorporation with the state and several other formalities, a sole proprietorship requires very little to establish. Laws vary by state with respect to forming a sole proprietorship, but there are a few common requirements. Many states or local governments require licenses to operate a business and most states will require a sales tax license to operate a business that sells goods or services to the public. Unless the owner uses his name as the business name, the owner may need to file a fictitious name certificate with the state or local government office that oversees the business operation in the jurisdiction.
Low Start-Up Costs
With the lack of formalities involved in establishing a sole proprietorship, there are low start-up costs. Without complicated and legally binding, operating documents, the owner is not likely to need an attorney; thereby, significantly reducing costs. Unlike establishing a corporation, there are little to no registration requirements or expensive registration fees.
Taxation is a major consideration when forming a business entity. Since the sole proprietorship is an extension of the owner, the income, expenses and deductions for the business will be reported on the owner's personal income tax return. Since the business taxes are paid through the owner’s personal income taxes, this is called pass-through taxation. Since the sole proprietor recognizes his personal income and expenses as well as the sole proprietorship's income and expenses on his personal income tax return, the revenues and losses from the sole proprietorship are treated as personal income and loss. The corporate tax code is extremely complicated. Since the sole proprietorship's tax filing is completed through personal income taxes, it simplifies the tax calculation; therefore, a sole proprietor may be able to calculate the taxes on his own or with the help of tax software, rather than hiring a business accountant.
Ease of Management
The idea of going into business for yourself can certainly be appealing since it means the owner has complete and total control over the business, including all decision making and planning. In addition to being your own boss, sole proprietorships offer the owner ease of management since this form of small business is exempted from many federal and state regulations. For example, many states exempt sole proprietors from maintaining workers' compensation insurance.