Sole Proprietorship: The Legal Reality. A sole proprietorship is a business where there is no entity (Corporation or LLC). This means that there is no legal distinction between you and your business. You may assume a name (e.g., Rick’s Radios) in which case that name is your d/b/a (which stands for doing/business/as). In North Carolina, you are required to register your d/b/a in the Office of the Register of Deeds in every county in which you do business. This allows anyone having an issue with your business to find out who you are.
Advantages. The major advantage to the sole proprietorship is simplicity. You don’t have to distinguish between personal and business assets, you don’t have to maintain the formalities of an entity, there are no capital accounts to maintain, and there are no business tax returns to file. You report your income on Schedule C of your personal return. This can be (and usually is) fairly simple, but also allows you to depreciate assets and subtract expenses as appropriate and so—depending upon your situation—may be somewhat complex. You do not need to withhold any taxes when you pay yourself, but you may need to make quarterly estimated tax payments to the IRS and DOR in order to avoid penalties. Bookkeeping can be quite simple, and you have maximum flexibility.
(Note that if you pay wages or salary to others, you MUST withhold taxes as you would with any business. As a sole-proprietor you can apply for an EIN to do this so that you don’t have to put your SSN on your employee’s W-2.)
Disadvantages. The major disadvantage to the sole-proprietorship is that since there is no entity, there is NO liability protection and your personal assets are available to anyone that has a claim against the business. If the business is just you, that may be the case regardless. But if there are others involved in your business, you may be personally liable for what ANY of them do in furtherance of the business. So, for example, if you send your helper to the corner for coffee, and he runs a light and hits a school bus, YOU could be named a defendant. And you could lose YOUR personal assets.
Tax Treatment. As there is no entity, the entity cannot make a tax election. So all sole-proprietors report income (and losses) on Schedule C to their personal tax return. All profit is taxed at income, which is generally not an issue until you are making substantially more than you get paid to do the same job for someone else. You will find more about tax matters and the impact of choices upon taxes in other places on our website.
Sole proprietorships are the best choices in some situations. In almost all of them, there is only ONE person involved in the business—one owner, no employees. If there is more than one person involved this will almost never be the right choice, though see “What is a Partnership for a little more on this. But if you are the only person involved in your business, this MAY be the option for you. Feel free to contact us for a consultation where we can review your situation and discuss the specific pros and cons in your business.