What is a Sole Proprietorship?

A sole proprietorship is a non-incorporated business that has only one owner that makes no distinction between the business and its owner. In a sole proprietorship, the owner is responsible for all debts and liabilities, but also receives all profits from the business. As a result, the sole proprietor  is responsible for paying personal income taxes on that profit  .

By definition, the business and the owner are one and the same, so a sole proprietor can do business under their own legal name. They may also choose to use a trade name, but it is important to note that creating a trade name does not create a separate legal entity.

How to Start a Sole Proprietorship

Because a sole proprietorship is an unincorporated business, the process for forming it differs from other business entity types, such as an LLC or corporation.

In some cases, the owner only needs to start the business before it is considered a sole proprietorship. Since the rules for registering a sole proprietorship vary from state to state, it is best to check with the county clerk or city government in the jurisdiction where the sole proprietorship operates.

If you choose to operate a sole proprietorship under a trade name (also called a fictitious name or ""doing business as""/DBA), your state may require you to file paperwork to let the local government know about your activities. If you don't file a DBA, you'll be operating under an ""assumed name,"" which is simply your own first and last name.

If you plan to hire employees or file taxes, you must obtain an Employer Identification Number (EIN) from the IRS. You'll report your income, losses and expenses on your personal income taxes, but keep in mind that  you'll need to pay self-employment tax  and  payroll tax to stay in legal compliance  .

Before starting a business as a sole proprietorship, be sure to check to see if you need permits or licenses. Licenses or permits are usually required for certain types of businesses:

• any type of therapy (including massage and music therapy)
• skilled trades, such as plumbers and electricians
• Medical device or service provider
• Athletic agent or trainer
• Cosmetologists and Barbers

It's a good idea to contact the county clerk or secretary of state's office in your jurisdiction to find out if you're required to obtain licenses or permits before doing business as a sole proprietor.

IRS Forms That May Be Required for a Sole Proprietorship

If you're doing business as a sole proprietor, you may need to use one or more of these forms to file your taxes with the IRS:

• Income Taxes:  Form 1040 (or 1040-SR  for those over age 65   ) and  Schedule C
• Self-employment tax:  Schedule SE
• Estimated Taxes:  Form 1040-ES
• Social Security, Medicare taxes, and income tax deductions:  Form 941  (quarterly tax return),  Form 944  (annual tax return), and  Form 943  (for agricultural employees)
• Wage and tax statements:  Form W-2  (sent to employees) and  Form W-3  (sent to the SSA)
• Federal Unemployment Tax (FUTA):  Form 940
• Information returns:  Form requirements vary depending on the business 
• Excise duty:  Form requirements vary depending on the business 

Remember that you will only need to fill out most of these forms if you have employees. Which specific forms a sole proprietor will need to fill out will depend on their specific business situation. It is always best to contact the IRS or seek advice from a professional.

Sole Proprietorship Examples: Who Can Benefit from This Business Structure?

The following types of business owners benefit the most from a sole proprietorship:

• People who like small businesses
• Those who operate a low-risk business
• People who don’t plan to expand their business

Some businesses start out as sole proprietorships but later reorganize due to business growth and expansion.

For example, Carmen Santiago starts her business, Carmen's House of Beauty, where she sells soaps and fragrances in a small shed behind her house. Eventually, Carmen finds a manufacturing facility, and her products are picked up by large, mass retailers who now sell them in thousands of stores across the country.

Eventually, Carmen realizes she wants to become even bigger. To attract investors and make it easier to obtain business loans, she decides to reorganize her business as a corporation, which requires her to file paperwork and engage in ongoing administrative and legal maintenance at the state and federal levels.

In contrast, some sole proprietorship owners do not wish to grow and expand their business, but instead prefer to run it as a small entity.

For example, Coach Louie, a former PE teacher turned personal trainer, visits clients in his hometown to help them improve their fitness. Louie does not want to travel outside the boundaries of his local jurisdiction. He simply runs his sole proprietorship called Louie Loves Fitness and purchases liability insurance to cover himself in the event of an accident.

If Louie wants to expand the business, he can always offer classes online, but if he doesn’t plan on making significant changes to the business model, he may never need to restructure the business.

Advantages of Sole Proprietorship

Sole proprietorship offers several benefits to business owners who use it:

• Minimal paperwork, even for those using a trade name
• Easy maintenance with no constant state requirements
• There is no need to file a separate business tax return with the IRS
• Complete control as you are the one responsible for the business

Because of these advantages, some people consider sole proprietorship to be the easiest type of business to start.

Drawbacks of Sole Proprietorship

Although sole proprietorship has many advantages, it also has some drawbacks:

• The owner is personally liable for all debts and legal issues.
• Investors may be hesitant because there isn't any stock available.
• Banks may be hesitant to lend money to sole proprietorships because of personal liability issues.
• If the owner dies or becomes incapacitated the business cannot continue.
• A sole proprietor does not get support from partners as he has only one owner.

Only you can decide which type of business entity is right for you based on your financial needs and administrative preferences.

Comparison of business entity types

If you're wondering if a sole proprietorship is right for you, it can be helpful to compare entity types before making a final decision. This table will help you compare sole proprietorships vs. LLCs or any other type of entity you're considering.

Unit Type	Formation	maintenance	Taxation	liability
sole proprietorship	No filing required unless a DBA is required	No state-level filing or fees	Pass-through; reports income and losses on personal income taxes	The owner is personally liable for business debts and legal issues.
General partnership	No registration required unless DBA is required	No state-level filing or fees	Pass-through; each partner pays tax and reports losses on his or her share of the income on personal income taxes	Partners are personally liable for business debts and legal issues.
limited Partnership	One general partner and 1+ limited partners must register with the state	Ongoing state filing and fees required	Pass-through; each partner pays tax and reports losses on his or her share of income on personal income taxes. Partnerships are required to file separate tax returns.	The general partner bears all financial liability. If limited partners do not manage the company, their personal liability is limited.
limited liability company	Must register with the state	Ongoing state filing and fees required	Pass-through; each owner pays taxes and reports losses on his or her portion of the income on his or her personal income taxes. LLCs can elect to be taxed as a corporation.	Owners are typically not personally liable for debts or legal issues.
Professional Limited Liability Company	At least half of the group members must be licensed by the state in the same profession, and the company must be registered with the state. Some states require all members to be licensed.	Ongoing state filing and fees required	Single-member PLLCs are considered disregarded entities, while multi-member PLLCs are taxed as partnerships.	Members are liable for their own misconduct, but not for the misconduct of other members.
Professional Corporation	At least half of the group members must be licensed by the state in the same profession, and the company must be registered with the state. Some states require all members to be licensed.	Ongoing state filing and fees required	Taxed as a corporation. Must file separate tax returns.	Members are liable for their own misconduct, but not for the misconduct of other members.
C-Corporation	Must register with the state	Ongoing state filing and fees required	Taxes as a corporation are imposed when income is offset by deductions, credits, and losses. Corporations pay shareholders using after-tax income. A separate tax return is required.	Shareholders are typically not personally liable for debts or legal issues.
s corporation	Must register as a formal business and then elect to pay taxes as an S-Corp	Ongoing state filing and fees required	Pass-through; each owner or shareholder pays tax and reports losses on his or her share of the income on personal income taxes.	Shareholders are typically not personally liable for debts or legal issues.
Non-profit corporations	Must register with the state	Ongoing state filing and fees required	Taxed as a corporation unless granted tax-exempt status as a 501(c)(3) organization	Owners are typically not personally liable for debts or legal issues.