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As a business owner, you face many decisions when it comes to starting, running, and growing your business.
This article is designed to explain your options and help you decide the correct business type for your business. business-types
It explains the advantages and disadvantages of the main business types, including Sole Proprietorship, Partnership, Limited Liability Company, C Corporation, as well as S Corporation.
After I clearly explain each business type in detail and go over the advantages and disadvantages of each, I will explain how you can form your own entity so you can get started with your business and help protect yourself from liability.
Thank you for going on this journey with me. If you have any questions whatsoever, I encourage you to post questions down below in the comment section.
The sole proprietorship is the simplest business form and is not a legal entity. Sole proprietorship is the easiest type of business to establish which means that there’s no state filing required.
It is simply an enterprise owned and operated by an individual. By default, once you start selling goods or services, you have created a sole proprietorship.
So there’s no actual filing requirements and you simply report your business’s earnings on your personal taxes.
sole proprietorship is not legally separate from its owner and it offers no personal liability protection. The law does not distinguish between the owner’s personal assets and the business’s obligations.
In fact, a sole proprietor’s assets can be and often are used to satisfy the debts and liabilities of the business. In other words, if your business gets sued, your personal assets (such as your house, car, or any other properties you own) may also be in risk.
Accidents happen, and businesses end all the time. Such circumstances may quickly become a nightmare for a business owner who operates as a sole proprietor.
A sole proprietorship can operate under the name of its owner or it can do business under a fictitious name, such as Benjamin's Hair Shop. The fictitious name is simply a trade name--it does not create a legal entity separate from the sole proprietor owner.
The sole proprietorship is a popular business form due to its simplicity, ease of setup, and nominal cost. A sole proprietor need only register his or her name and secure local licenses, and the sole proprietor is ready for business.
The owner of a sole proprietorship typically signs contracts in his or her own name, because the sole proprietorship has no separate identity under the law. The sole proprietor owner will typically have customers write checks in the owner's name, even if the business uses a fictitious name. Sole proprietor owners can, and often do, commingle personal and business property and funds, something that partnerships, LLCs and corporations cannot do.
Sole proprietorships often have their bank accounts in the name of the owner. Sole proprietors need not observe formalities such as voting and meetings associated with the more complex business forms.
Sole proprietorships can bring lawsuits (and can be sued) using the name of the sole proprietor owner. Many businesses begin as sole proprietorships and graduate to more complex business forms as the business develops.
Because a sole proprietorship is indistinguishable from its owner, sole proprietorship taxation is actually easy. The income earned by a sole proprietorship is income earned by its owner.
A sole proprietor reports the sole proprietorship income and losses and expenses by filling out and filing a Schedule C, along with the standard Form 1040. Your profits and losses are first recorded on a tax form called Schedule C, which is filed along with your 1040. Then the "bottom-line amount" from Schedule C is transferred to your personal tax return.
This aspect is attractive because business losses you suffer may offset income earned from other sources.
As a sole proprietor, you must also file an IRS tax Schedule SE with Form 1040. You use Schedule SE to calculate how much self-employment tax you owe. You need not pay unemployment tax on yourself, although you must pay unemployment tax on any employees of the business. Of course, you won't enjoy unemployment benefits should the business suffer.
Advantages of Sole Proprietorship
Instant, easy & inexpensive No state paperwork is required for creation No separate tax filing is required -- profits or losses are reported on the owner’s tax return The owner may freely mix business and personal assets A sole proprietor need not pay unemployment tax on himself or herself (but must pay employee unemployment tax) Few, if any, ongoing formalities
Disadvantages of Sole Proprietorship The owner is subject to unlimited personal liability for business debts, losses and liabilities Obtaining capital, such as a bank loan, can be more difficult -- lenders often require a more formal entity structure Sole proprietorships rarely survive an owner’s death or incapacity, so they do not retain value Sole proprietorships by definition can only have one owner A distinct disadvantage, however, is that the owner of a sole proprietorship remains personally liable for all the business's debts.
So, if a sole proprietor business runs into financial trouble, creditors can bring lawsuits against the business owner. If such suits are successful, the owner will have to pay the business debts with his or her own money.
Let's examine this more closely because the potential liability can be alarming. Assume that a sole proprietor borrows money to operate but the business loses its major customer, goes out of business, and is unable to repay the loan. The sole proprietor is liable for the amount of the loan, which can potentially consume all her personal assets.
Imagine an even worse scenario: The sole proprietor is involved in a business-related accident in which someone is injured or killed. The resulting negligence case can be brought against the sole proprietor owner and against her personal assets, such as her bank account, her retirement accounts, and even her home.
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