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When starting a business, one of the first decisions an owner must make is what structure to use. A sole proprietorship is where the single owner operates the business. A partnership is similar, however, it is owned by two or more individuals. A corporation is a legal entity separate from the owners of the business. There are a number of factors to consider before deciding which route to take.
How a Sole Proprietorship Works
A sole proprietorship is one of the easiest forms of business to start partially because it requires no filing of documents. If a single person starts a business and takes no further steps, it is a sole proprietorship. All income or losses are taxed to the owner as personal income. This flow-through taxation is a significant benefit for many owners. However, a sole proprietorship also provides no liability protection for the owner. The owner is personally responsible for all liabilities, placing his or her personal assets at risk.
A sole proprietorship must meet any licensing requirements associated with their type of business. Further, if a sole proprietorship wishes to operate under a fictitious name, also called a doing business as (DBA) or assumed name, the owner must complete any filing required by her jurisdiction.
Advantages of Sole Proprietorship
Operating as a sole proprietor offers some distinct advantages for Beth. It’s a pretty simple and easy type of business organization to manage. As we mentioned earlier, there is no legal distinction between her and the bookstore. Beth is her bookstore, and the bookstore is Beth. So, she doesn’t have to worry about a board of directors or shareholders. Beth is the one and only boss, answerable to no one but her customers and creditors. This also makes it easy for Beth to cash out and sell her bookstore when she wants to do so.
Beth doesn’t have to figure out and comply with complicated laws and regulations with which corporations must contend. And, she doesn’t have to file anything with the state or keep special types of organizational records, like corporate bylaws and meeting minutes. Since she doesn’t have to hire accountants and lawyers to prepare paperwork and advise her on complicated laws, she saves a bunch of money.
Income taxes are also a snap compared to corporations because Beth and her business are one and the same in the eyes of the law. Beth is the only taxpayer. She simply reports her business income or loss on her personal tax return. This also means there is no double taxation like with a corporation where the corporation is taxed on its income, and then its shareholders are taxed on dividends distributed to them from the corporation’s income.
Disadvantages of Sole Proprietorship
Beth does face some disadvantages as a sole proprietor. The biggest disadvantage for Beth is that she is completely liable for the debts and contractual obligations of her bookstore. If the bookstore doesn’t pay its bills, creditors can pursue Beth in court and satisfy any court judgment by selling Beth’s property, including things like money in her bank account, her house, car and even her furniture.
She is also liable for any negligence or wrongful acts resulting from operating the bookstore. For example, if a customer slips and falls on the recently waxed floor at the store, Beth may have to pay for damages that customer suffers if a court finds the business was negligent in maintaining the floor. Beth is subject to this personal liability because the law does not recognize any difference between her actions and the actions of her business.
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