How to Transfer a Sole Proprietorship to an Employee

by Jeff Clements
Key employees are often good candidates to buy out a business.

Key employees are often good candidates to buy out a business.

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For several reasons, passing a business to an employee can be a challenging proposition when a business is operated as a sole proprietorship. Although a sole proprietorship is a simple form of business, there are certain formalities involved in transferring its ownership to an employee as the new sole proprietor.

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Business Valuation

Transferring a sole proprietorship to an employee requires the original owner to determine which assets will be included in the sale and develop a fair sales price for the business. If the buyer is a long-term employee, the owner may want to extend favorable terms to reward her for her loyal or exemplary service. Nonetheless, it is always recommended that the parties agree to the terms of the transfer in writing by executing a detailed purchase and sale agreement.

Business Liability

The business assets and liabilities in a sole proprietorship are in the name of the individual owner. As such, he is personally responsible for all of its debts, and usually creditors will not allow him to simply pass off those obligations to another person. An effective transfer of a sole proprietorship typically requires all debts -- and open accounts like phone and utilities -- in the name of the owner to be paid off or closed out. However, this may disrupt the business, and if the buyer is a trusted employee, the owner may want to leave his name on certain obligations to allow the employee to stay in business during the transitional period.

Business Licenses, Permits and Accounts

A sole proprietor selling his business to an employee should cooperate with the buyer to remove his name from all applicable business licenses, permits and accounts. If the buyer is an employee who may not have the credentials to qualify for required licenses and accounts, the original owner may choose to stay on record for a certain period of time. To prevent misunderstandings, it is advisable to specify how the transition will work in writing.

Closing the Deal

Once the sales agreement has been finalized and the purchase price exchanged, business assets should be retitled accordingly and keys passed over to the new owner. Also, customers and vendors should be notified of the new ownership so there is no confusion as to who is responsible for the business once it is sold.