Sole Proprietorship Pros and Cons
There are certainly advantages to running your own business. In fact, in the US most businesses are run under the “sole proprietorship” structure which offers certain advantages as well as disadvantages. Choosing the right type of business structure for your needs starts with the understanding of what a sole proprietorship is, along with the pros and cons of such a venture.
The challenges of being a sole proprietor are many, but they all stem from one fact in that the owner and the business are the same. This combination is inseparable until the business is dissolved or purchased from the owner. But what is being a sole proprietor?
What is a Sole Proprietorship?
Basically, a sole proprietorship is a business structure that is owned and operated by the same person. Compared to corporate structures, a sole proprietorship is relatively simple, especially in terms of filing tax returns and reporting business income.
Many people who start their own businesses as sole proprietorship’s do so because of the relative simplicity of this structure, which is why many small investors are also attracted to invest in such projects. However, despite numerous advantages, there are also disadvantages to consider as well. For those who are interested in become the sole proprietor of a business, considering all the pros and cons is vital before investing in this type of business.
4 Pros of a Sole Proprietorship
There are a number of advantages which are immediately apparent when forming your own business, here are just a few.
1. Easy to Form
Since state governments oversee the formation of businesses, a sole proprietorship is markedly easier to create than other forms of businesses like corporations. This is because having one person as the owner and operator is much simpler than having several people directly involved. In some states, sole proprietorship’s can be formed without double taxation standards which are common to most corporations. In fact, the proprietorship can be named after the owner if desired which helps simplify the process even more.
2. Simplify Decision-Making
When only one person is in charge, there are fewer potential conflicts that can occur. In corporations for example, all the owners must agree to a course of action which can create internal conflicts. With a sole proprietor, there is no agreement needed with anyone else in making business decisions.
3. Tax Simplification
Since no separate business tax report is necessary, all business information, figures and appropriate information can be written on the individual tax form. This greatly simplifies the tax filing process, especially compared to corporations which must use a different, more complicated set of tax laws. Plus, sole proprietors are taxed as a personal income which can offer benefits as well.
4. Hiring Employees
A sole proprietor can hire employees to handle some of the workload, which means that they enjoy additional tax breaks as well. Even spouses can be employed without having to go through any legal formalities or even being declared an employee. In fact, many married couples form sole proprietorship’s although the liability is assumed by just one of them.
4 Cons of a Sole Proprietorship
Although there are certainly many advantages, there are also disadvantages that need to be discussed before you venture into setting up a sole proprietorship. To know the basic risks that are present can better help you prepare for some of these eventualities.
1. Self-Employment Tax
Although there are many tax benefits, the main detriment in terms of taxation is paying the “Self Employment” tax. Plus, there are certain tax benefits that are not deductible, such as health insurance premiums for the employees you have in your business. You will need the services of a tax expert to fully understand all aspects of what you are expected to pay.
The joy of owning your own business is somewhat offset by being totally responsible for any losses, violations or debts that build up along the way. This means that if your business runs into any debt situations, then you are liable to pay for them out of your own personal income. Also, if your employees commit an unlawful act, you can be sued in the process just like the owner of any business. In corporations, the owners enjoy some barriers in certain liability situations,, such as being held for losses or specific violations.
3. Raise Capital
While corporations can sell stocks to raise capital in forming their own business, a sole proprietor must use their own money. While raising capital can be accomplished, it is a much harder path that simply selling stocks which helps divide up the ownership, but also provides ready cash to create and promote the business. This means that once your business is formed, your profits are your primary source for raising money to help your business expand.
If the owner should pass away, the company also dissolves as well. This is because the business and the owner are one and the same. The business is generally liquidated to the beneficiaries, but there are taxation consequences such as inheritance and estate taxes that must be paid as well. These burdens can reduce the equity of the business considerably. But the main effect is that the business will usually end with employees having to look for some other place to work unless the business is purchased or transferred before the owner dies.
Making the Best Decision for Yourself
Being the sole proprietor offers many benefits and challenges that must be met for the business to be successful. Careful planning must be insured to keep the business going after the death of the owner. Tax laws must be carefully obeyed to avoid any penalties and consultations with attorneys are highly recommended to make sure that all laws are followed.
However, understanding the benefits and potential detriments of being a sole proprietor can help you decide if running your own business is right for you. For many thousands of Americans, being a sole proprietor is a benefit that outweighs all the cons. The rewards of running your own business go beyond the financial and enjoying these advantages can take you to new places for those who choose to be the boss.