The Sole Proprietorship

According to the IRS, a sole proprietor is someone who owns an unincorporated business by himself or herself. Individuals need do nothing formal to establish a sole proprietorship. The sole proprietorship is the most common form of business structure for small companies. It is viewed as being one and the same as its owner from both a legal and tax perspective. This characteristic has the advantage of simplicity but also has the disadvantage of exposing the owner to personal liability.

Formation: Simply start doing business. Most states and localities impose registration requirements, so make sure to review local requirements or consult a small business expert in the region.

Management: The sole proprietor controls all business decisions alone.

Taxation: The sole proprietorship is a disregarded entity for tax purposes. All business income and expenses are reported on the owner’s federal tax
return. In addition to federal income taxes, self-employment tax of 15.3% generally applies.

Liability: The business owner is liable in contract and tort for the activities of the business. Creditors of the business may claim against both the sole proprietor’s personal and business assets. Conversely, personal creditors of the business owner may claim against both personal assets and those of the sole business.

Transferability: The existence of the sole proprietorship business is linked to the business owner. So, continuity of business operation is uncertain if the owner wants to transfer the business assets or operation to another person.

Dissolution: To dissolve the business, the sole proprietor simply stops doing business. The business owner still has an obligation to notify creditors of the cessation of business. Additionally, state and local regulations may impose notification requirements upon the sole proprietor. The sole proprietorship will also cease to exist upon the death of the owner.

Pros: Fewest legal formalities (easy to start, transfer assets and dissolve), unlimited control, minimal income tax filing requirements.

Cons: Unlimited liability, uncertain continuity in the event of owner’s death or incapacitation, limited access to investor capital.

Bottom Line: The sole proprietorship is the easiest entity to start, operate and manage from a legal and tax perspective. It may be a suitable choice where the nature of the business is simple and potential liability for the owner is minimal.