Advantages and Disadvantages of a Sole Proprietorship
Minimal paperwork and low setup costs are two of the main benefits of owning a sole proprietorship. Plus, it's easy to maintain. In fact, according to the SSM, it's the easiest and cheapest type of business you can set up.
Let's look at some additional key advantages.
You don’t need to separate taxes for your business. Any profit you make is simply treated as your own income.
But as a sole proprietorship, there are two important tax details to consider:
Whether or not you withdraw the funds, you will still be taxed on all profits from your business.
You will need to complete Form B (or electronically file Form e-B (sole proprietor)) detailing your profits and losses.
It is filed at tax time.
A sole proprietorship is easier to start and maintain than an incorporated company. With minimal legal fees and no ongoing state requirements, you can simply operate your business. This is true even if you use a fictitious name (also known as DBA (Doing Business As)).
A sole proprietor has complete control and decision-making power over the business. Without any partners, you are the sole owner of the business, so run as you choose.
As a sole proprietor, there are some obvious disadvantages to consider. Consider these potential downsides before choosing the best business structure for your business.
One of the main disadvantages of a sole proprietorship is that you will be personally liable for all the obligations of the business. There is no separation between the owner's assets and those of the business.
Personal liability allows creditors of the business to go after your personal assets if the business assets are not sufficient to cover the business debts. Likewise, your personal creditors can go after your business assets to satisfy your personal debts.
Since you will be personally liable for the business' obligations, you should consider whether the business will face any potential litigation. For example, a business may be held liable for customers who are injured on the premises or as a result of products the business sells. If the possibility of litigation exists, you can limit your risk by purchasing business insurance (general liability, malpractice, or product liability, if necessary). Alternatively, you may want to consider a different business form that offers greater liability protection, such as a limited liability company.
Raising capital can be a challenge for sole proprietors because it is not possible to sell shares in the business, which can make investors hesitant to invest. Getting a loan from a bank can also be challenging because if the business fails, all responsibility for repaying the loan falls on the shoulders of the owner.
Another advantage is that sole proprietorships rarely survive if the owner dies or becomes incapacitated. While a company is legally a separate entity from its owner and can be taken over by someone else, a sole proprietorship must be run by its owner.
Lack of support
While having complete control is a benefit, sole proprietors are solely responsible for the success or failure of the business. This can be a significant disadvantage of owning a sole proprietorship because it adds extra pressure and stress.
How to Decide Between a Sole Proprietorship and a LLC
First, focus on your business needs when deciding between an LLC and sole proprietorship. If you're just starting out in business—for example, if you're a freelancer just starting to find clients—a sole proprietorship is an easy and cost-effective option. On the other hand, fast-growing businesses that need capital are better suited to forming a limited liability company (LLC).
Consider your business needs (from financial to operational) and goals when reviewing options to make the best choice for you and your business.
For more information, contact us.