Sole Proprietorship as a Form
of Business
Sole Proprietorships are Easy
to Set-up
Sole Proprietorships are the
easiest form of business to start and in many respects the easiest form
of business to stop. Since more than 90% of the businesses established
in a given year will be out of business within 5 years, low cost of
start-up and simplicity of operation are a significant advantage of the
sole proprietorship.
Disadvantages of Sole
Proprietorships
Sole proprietorships have two
main problems. First, all liability of the company, including all of
the employment taxes if not paid, are the personal responsibility of
the sole proprietor. Secondly, expansion of the business with
additional equity holders is difficult because it requires at a minimum
a change of form from a sole proprietorship to a partnership or a
conversion to a corporation or a Limited Liability Company. The other
disadvantage is that a sole proprietorship will need to do the
necessary things to establish the business which are not much different
nor less expensive than a Single Member Limited Liability Company.
The Sole Proprietorship form
of business is appropriate for many if not most businesses.
1.
Personal Liability. There
is a natural concern about the "unlimited liability" aspect of the Sole
Proprietorship. In some circumstances, liability is not an issue
because it is adequately covered by insurance and malpractice
insurance. If the appropriate coverage is not available, limiting the
risks by having a Single Member LLC or corporation would be most
advisable.
2.
Personal Liability for Debts. The sole proprietor has personal liability for all
the debts and obligations of the business. This puts personal assets at
risk if something goes wrong with the business, and no insurance
coverage is available.
3.
Personal Liability for Employment Taxes. The sole proprietor is personally liable for both
the employee's portion (trust fund) and employer's portion of
employment taxes. A corporation or Limited Liability Company would also
be liable for both the employer and employee. Nevertheless, if a
corporation or Limited Liability Company were to go out of business
owing employment taxes, the responsible parties (members, shareholders,
officers) would be liable only for the trust fund portion and not the
employer's portion.
4.
Limited Existence. When
the sole proprietor dies, the sole proprietorship goes out of business
and may be difficult to continue as a viable entity.
5.
Sale/Transfer of All or Part of the Business.
The sole proprietor can
transfer the business only by the sale of business assets. This means
it is more difficult to have someone buy into the business, and there
are potential tax consequences of converting a sole proprietorship to a
corporation or a Limited Liability Company rather than starting out
with a durable form of business entity.
6.
Taxation. Taxation
of the sole proprietorship is reported on Schedule C of the U.S. 1040.
7.
Cost of Operation. The
cost of operating a sole proprietorship versus a Single Member Limited
Liability Company is about the same for accounting and business
operating purposes. There is no advantage to the sole proprietorship.
8.
Advantages. The
sole proprietorship is easy to form and easy to end. Nevertheless,
taking in potential equity holders/partners, or getting investors is
legally difficult. Unless the business is a professional practice or
other small service business, it is probably advisable to have a
durable entity such as a Limited Liability Company or corporation.