One of the first steps in starting a business is choosing an organizational entity. Many individuals who work for themselves do so as sole proprietors. There are both benefits and drawbacks inherent to sole proprietorships which every owner should understand before selecting this business form. Retaining dedicated legal counsel can assist you with all stages of your business. If operating as a sole proprietor aligns with your interests and goals, then it is time to speak with Capstone Legal Strategies.
What Is a Sole Proprietorship?
A sole proprietorship is a business that is owned and operated by a single person. This business form requires minimal paperwork to establish, as there is no legal distinction between the individual and the business. All profits received by the business are reported as personal income. The owner-operator is also personally liable for debts and liabilities of the sole proprietorship.
Because of their simplicity, sole proprietorships are the most common business structure in the United States. They are ideal for businesses that operate in low-risk industries, that don’t have assets, that don’t have employees, or individuals looking to save money on formation and governance costs. Examples of businesses that operate as sole proprietorships include:
- Freelancers, such as writers, photographers, and personal trainers
- Businesses that are considered to be “side hustles” or bring in additional income
As an individual’s operation grows and risks increase, the sole proprietorship becomes a less ideal form. The sole proprietor may then decide to incorporate or use another more formal business structure. This is especially the case if the owner decides to bring in a partner or hire employees, since tax and labor considerations must be factored in.
Advantages of Sole Proprietorships
The popularity of sole proprietorships steps largely from its numerous advantages, among which are:
- Minimal startup costs: Sole proprietors have limited paperwork requirements, which translates to low startup costs. Depending on the industry in which a sole proprietor operates, certain permits and licenses may need to be obtained. You may also need to register as a DBA (doing business as) if you are operating under a business name other than your own.
- Simple operation: Unlike a corporation, there is no requirement with a sole proprietorship to have a board of directors, to hold annual meetings, or to file annual paperwork. Since there are no other employees, there is no need for employment contracts.
- Pass-through tax treatment: The absence of any legal distinction between the sole proprietorship and its owner means that profits pass through to the owner, at which point they are taxed once. The owner simply files a personal tax return and reports the income.
- Full control: As a sole proprietor, the business owner makes all decisions without the need to consult a partner or board of directors. The business can be dissolved relatively easily if the need or desire to do so arises later.
Disadvantages of Sole Proprietorships
As with any business entity, the sole proprietorship has its share of disadvantages. They include:
- Unlimited personal liability: Because the owner and the business are considered by the law to be one, there is no difference between the liabilities, debts, and obligations of the sole proprietorship and those of its owner. Personal assets can therefore be seized if needed to pay a debt or court judgment incurred by the business.
- Limited ability to raise capital: Unlimited liability means there is no protection against creditors and judgments. Consequently, banks and other lending institutions tend to view sole proprietorships as riskier than corporations and limited liability companies, which makes them reluctant to lend money. It is also difficult to raise money from outside investors.
- Higher taxation: Although profits are passed on to the sole proprietor and it is relatively easy to report the money as income, there are tax drawbacks. For instance, the owner and operator of the sole proprietorship must pay both income tax and self-employment tax.
How Can a Sole Proprietorship Attorney Help Me?
Despite the relative ease of establishing and running a sole proprietorship, there are several reasons why an owner should retain legal counsel before deciding on this business form. Our law firm is experienced with all aspects of Texas business law, and we can advise and assist with:
- Selecting the right legal entity: We can review the nature of your business and its relationship with others to decide the level of personal risk you would be assuming with a sole proprietorship. If another form, such as a corporation, would better protect and serve you, we can help you establish it.
- Explaining tax and other liabilities: Since the largest drawbacks of the sole proprietorship involve tax and other liabilities, we can review both of these areas with you. In so doing we can assist with developing a business plan that minimizes these obligations and reduces the likelihood of a lawsuit.
- Securing all necessary paperwork: The industry in which you operate may require federal, state, and/or local permits, licenses, and registrations. Our team can discuss these responsibilities and explain any future paperwork that may be required of your sole proprietorship.
- Ongoing legal counsel: We strive to help businesses avoid unnecessary litigation and provide continuing legal advice as they develop and grow. Over time, you may decide that another business entity would best serve your organization, and we can assist with the transition.
Contact Our Houston Sole Proprietorship Attorney
If you are ready to launch your next business venture or you simply want to start working for yourself, connect with Capstone Legal Strategies. We have the experience it takes to best position your sole proprietorship for future success. Schedule your initial consultation by giving us a call today.