Sole Proprietorship vs. LLC: An Overview

One of the first decisions that anyone going into business needs to make is 🙈how to structure their company.

The structure they choose can have a variety of important implications, including☂ how they pay their taxes and the extent to which their personal assets can be shielded from legal liability if they’re sued.

For many small business owners,ꦐ the choice will be between a sole proprietorship and a limited🍬 liability company (LLC).

Here is what you n💛eed to know about e☂ach one to decide which might be right for you.

Sole Proprietorship

A 澳洲幸运5官方开奖结果体彩网:sole proprietorship is the s🐈implest type of business structure. Anyone can establish a sole proprietorship as long 🍌as they are the only owner.

If two or more people wish💛 to🍌 start a business together, they must choose another structure, such as a limited liability company (LLC) or a partnership.

Advantages

Cost-effectiveness and simplicity of setup: Sol🌼e proprietor🍨ships are easy and inexpensive to establish.

In most states, you don’t need to register the business or take any other official steps if you plan to operate it under your own name. If you choose another name, you may have to file a doing-business-as (DBA) registration.

When it comes time to file your taxes, you don’t have to fill out a separate business tax return; you simply report the gains and losses of your business on a 澳洲幸运5官方开奖结果体彩网:Schedule C and attach it to your 澳洲幸运5官方开奖结果体彩网:Form 1040 individual tax return.

Full control and ownership of the business: ﷽As the sole owner of the business, you have complete autonomy. You are your own boss and don’t have to answer to partners, a board of directors, or a♌nyone else.

Easy dissolution process: Just as starting a sole proprietorship req🐻uires no legal formalities, you can end one whenever you please.

The Internal Revenue Service (IRS) does require that you file a Schedule C for your final year in business, and you may also need to attach a 澳洲幸运5官方开奖结果体彩网:Form 4797 if you sell any property or other assets associated with the business.

The process is a little more complicated if you have used an 澳洲幸运5官方开奖结果体彩网:employer identification num💙ber (EIN) rather than your 澳洲幸运5官方开奖结果体彩网:Social Security number (SSN) in filing y🌊o🐷ur taxes, as is required if you have employees.

In that case, the IRS requires that you send a letter notifying it that you are canceling your EIN.

The U.S. 澳洲幸运5官方开奖结果体彩网:Small Business Ad🍬ministration (SBA) also advises canceling any registrations, permits, licenses, and DBA names that you no longer need so as to “protect your finances and reputation.”

Disadvantages

Personal liability for business debts and obligations: As a sole proprietor of꧂ your business, you are solely responsible for its debts and other obligations.

Most other business structures provide protections that can insulate an owner’s personal wealth from that of the business to at least some extent.

However, if you’re a sole proprietor, you can mitigate some of the financial risk if yo♕u purchꦫase liability insurance.

Difficulty in raising capital: Unless your sole proprietorship has been successfully up and ru💛nning for some time, you may find it difficult to borrow money if you need to do 🎶so.

Many sole proprietorships are funded in the early years out of their owner’s personal bank accounts and with help from generous friends and relatives. Unlike C corporations, sole proprietorships can’t issue stock to raise capital.

Limited growth potential: Because of their lack of acce♕ss to capital and gene⛄rally limited resources, sole proprietorships tend to stay small.

That may be just fine for some owners, who prefer it that way. For owners with grander ambitions, there may come a time to switch to a different and mo🐎re flexible structure, allowing for additional or faster growth.﷽

Limited Liability Company (LLC)

A 澳洲幸运5官方开奖结果体彩网:limited liability company (LLC) is a step up from a sole pඣroprie✅torship in terms of complexity.

An LLC can have a single owner or multiple owners, and it affords them legal protections that a sole proprietorship does not (hence “limited liability”).

LLCs with just one owner are sometimes referred to as single-member LLCs.

Advantages

Limited personal liability for business debts: An LLC shields its owners’ personal property, such as a home, car, or personal savings, in the event of a lawsuit or bankruptcy.

Flexibility in management and ownership: Like a sole prop🍨rietorship, an LLC’s owners have relati𓃲ve autonomy in deciding how the business is run.

There is no limit to how many owners an LLC can have, and in addition to individuals, owners can be trusts, corporations, or partnerships.

Potential tax benefits: For tax purposes, LLCs can be set up as pass-through (or flow-through) entities.

This means that any profits or losses are simply passed on to the owners, who then report them on their individual tax returns.

This is also true for sole proprietorships, 澳洲幸运5官方开奖结果体彩网:partnerships, and 澳洲幸运5官方开奖结果体彩网:S corporations, but not for 澳洲幸运5官方开奖结果体彩网:C corporations, which are subject to an additional layer of corporate taxes, sometimes referred to as 澳洲幸运5官方开奖结果体彩网:double taxation.

Disadvantages

Formation and ongoing fees: LLCs typically must be registered i🐭n their home state and in any other state where they do business.

States vary in their filing requirements, but LLCs will generally need to submit a set of documents including an operating agreement that spells out how the business will be run.

States charge filing fees for establishing an LLC and require that the registration be renewed periodically at an additional cost.

In addition, an LLC may be subject to other fees, often including annual or biennial report fees, which are required to preserve its legal status.

If the owners wish to close the LLC, they will be required to pay a (generally small) dissolution fee.

Additional administrative requirements: As mentioned, LLCs are generally required to file a report, sometimes called a statement of information, annually or every two years with the states in which they're registered.

These reports incꦡlude such details as the LLC’s current owners and their addresses. If the LLC fails to file its report by the state’s deadline, the state can impose late fees or even dissolve the 𝔍LLC.

Importantly, as Wolters Kluwer points out, an LLC without an up-to-date report on file “will not be in good standing with the state. This can jeopardize your business’ ability to secure a loan, close contracts, or expand operations.”

LLCs may also b🍨e required to obtain a state EIN and state or local sales tax identification number, depending on the type of business.

If an LLC has payroll, they will need a state EIN or withholding account number. Some states also require employers to have an employer account number with t🅘he state Department of Labor for unemployment tax collection.

Additional tax requirements: LLCs can be subject t♌o additional tax filing requirements as well.

The IRS doesn’t consider LLCs to be a distinct type of entity for tax purposes. Instead, it subjects them to the rules for sole proprietorships (single-member LLCs), partnerships, or corporations, depending on which of those they have chosen.

LLCs with more than one member can be treated as either partnerships or corporations. In the case of a partnership, the LLC must file an informational tax return with the IRS each year, known as 澳洲幸运5官方开奖结果体彩网:Form 1065, as well as prepare 澳洲幸运5官方开奖结果体彩网:Schedule K-1 forms for each of its owners.

The partnership is not taxed on its income, but each owner mus🎀t report the information that’s on their K-1 and pay any 🍬required taxes when they file their individual returns.

LLCs that are classified as corporations must file different forms, depending on whether they are set up as C corporations or S corporations.

Potential for involuntary dissolution: LLCs can dissolve of their own accord based on a decision by their owners, or they can be involuntarily dissolved by the state (administrative dissolution) or a court (judicial dissolution).

When an LLC is dissolved, it loses the liability protections previously afforded to its members. Reasons for involuntary dissolution can include failure to pay taxes or meet other state requirements.

LLCs can also be dissolved in the absence of members, such as if the owner or owners have died.

Sole Proprietorship vs. LLC: Similarities and Key Diff🧜erences

Sole proprietorsh🐎ips and LLCs have much in common, but there are also some differences wor🐎th reinforcing.

Similarities

Tax reporting requirements: Both sole proprietors and LLC owners are required to file cer♍tain tax forms and pay taxes on any pro🌞fits they make.

Sole proprietors report their business income and losses onꦰ their indivi💮dual tax returns by attaching federal Schedule C.

LLCs are subject to different filing requirements, depending on whether they are classified as a single-member LLC, a 🉐partnership, or a corporation.

Business licenses and permits: Both sole proprietorships and LLCs can be required to obtain federal, state, or local business licenses and permits, depending on the nature of the business they are in.

For example, a restaurant or construction company may be required to obtain a business license regardless of its ownership structure.

Use of assumed business names/(DBA): Both sole proprietorships and LLCs can choose a name ꧟for the business (assuming it hasn’t already been taken by another business).

Sole proprietorships have the option of running the business under the owner’s name, while LLCs must choose and register a DBA name.

Differences

Liability protection: Sole proprietors bear the entire financial responsibility for any lawsuits or le𒐪gal judgments against their 🍎business. LLCs can protect their owners’ personal assets in that situation.

Ability to raise capital: Obtaining a loan or attracting investors can be difficult for sole proprietorships, espe𓂃cially those without a long track record of profitability.

LLCs can raise capital in a number of ways. For example, they can take on additional members (as LLC owners are known). If the LLC is structured as a C corporation, it can also sell shares of stock or issue bonds to raise capital.

Regulatory requirements and costs: LLCs are more strictly regulated than sole proprietorshipsᩚᩚᩚᩚᩚᩚ⁤⁤⁤⁤ᩚ⁤⁤⁤⁤ᩚ⁤⁤⁤⁤ᩚ𒀱ᩚᩚᩚ. This is not just in the state where they are based, but in any location wher෴e they do business.

That means that LLCs face additional and ongoing costs, making them more expensive to operate.

Factors ✃to Consider in Choosing the Right Business Str𓃲ucture

Business owners have a choice in how they wish to structure their companies. A single-owner operation, for example, can set up a൲s either a sole proprietorship or a single-member LLC.

Multiple owners can form a partnership or corporation. Before deciding how you'll set up your business, here are some things to consider.

The nature of the business and its risks: Because LLCs provide additional protections fﷺor their owners’ personal possessions and other assets, they can be more appropriate than sole proprietorships for businesses thജat run the risk of lawsuits.

As the U.S. Small Business Administration (SBA) puts it, “Sole proprietorships can be a good choice for low-risk businesses and owners who want to test their business idea before forming a more formal business,” while “LLCs can be a good choice for medium- or higher-risk businesses, owners with significant personal assets they want protected, and owners who want to pay a lower tax rate than they would with a corporation.”

Growth potential and funding needs: Sole proprietorships are limited in their growth potential because they can have 🍃no more than one owner and are likely to have a harder time obta🥀ining capital for expansion.

However, as the SBA notes, a s♒ole proprietorship can be a practical way to start a business. If it catches on, the owner can later restructure it as any of the several types of LLCs.

Personal liability concerns: Sole proprietorships provide no protection for their owner’s personal assets, although that can be mitigated to some extent through liability insurance and, if worse comes to worst, filing for bankruptcy.

So anyone with substantial assets to protect should weigh the benefits of forming an LLC. That is especially true if their business faces a serious likeli♚hood of being sued at some point.

Tax implications: Sole proprietorships and certain types of LLCs all en🌳joy the tax benefits of being pass-through entities, where any profits are taxed onl꧅y once.

The exception is if the LLC is established as a C corporation, in which case its income is taxed on both the ꦡcorporate and individual le🦋vels.

Administrative requirements and costs: LLCs requ🌊ire considerably more paperwork to set up 🌳and maintain than sole proprietorships do.

They are also subject to additional costs. For prospective business owners, the question comes down to whether the extra work and expense is justified by the LLC’s greater liability protections.

The Bottom Line

Sole proprietorships and 𓆉LLCs both have advantages and disadvantages. Sole proprietorships are simpler and cheaper to se🍃t up and run, while LLCs provide liability protections that sole proprietorships do not.

For anyone about to launch a business, these tradeoffs are importꦬant to think through. However, whichever structure you choose, it is relatively easy to switch to the other one if you later decide that it would be🌟 a better fit.

Correction–March 3, 2025: This article was updated to remove inaccurate attribution of a cited source.