What is Sole Proprietorship?

Lots of people dream of setting up a business. Who hasn’t fantasized about being their own boss and making all the rules? Those that go through with it have lots of practical decisions to make, however. 

A fundamental choice is that of what type of business to establish. One of the more commonly chosen alternatives is that of a sole proprietorship. What, though, is one of these companies? Why do many entrepreneurs decide to set them up? What are their pros and cons? These are all the things you’ll learn by reading on. 

Defining a Sole Proprietorship

A sole proprietorship is the simplest form of company that an individual can set up. It is not a legal entity and needs no official papers to get filed to start operating. In some states, though, you may need specific licenses or permits. As such, legally, a sole proprietorship has no separate existence from its owner. 

All you need to start this kind of business is to begin doing business. Create a home office with a laptop, VoIP home phone, and other equipment, and you’re almost there. As soon as you start selling your products or service, your sole proprietorship is up and running.  

Rules of a Sole Proprietorship

While sole proprietorships are the most basic form of business, there are rules. If you’re going to set up your own firm, you need to understand these from the get-go.

1.Trading name.

As mentioned, these types of companies aren’t legally distinct from their owners. As such, your business name will be the same as your personal name. If you’re John Smith, for example, you will trade under the name John Smith. 

It is possible, however, to establish a separate trading name. For this, you must file Doing Business As (DBA) papers. Say John Smith wants to sell solutions for video conferencing for small business. He might file a DBA for ‘JS Communications’.  

2. Taxes.

With a sole proprietorship, you are your business. As such, its income is your income. That means all turnover gets taxed on your personal income tax return. You won’t need to pay additional business taxes or file any differently than usual.  

3. Debts & liabilities.

Owners of sole proprietorships are personally liable for all liabilities. That means you must pay any debts from your own assets if those of the business can’t cover them. You can also get sued or litigated against personally if something goes wrong with the firm. 

Advantages & Disadvantages of a Sole Proprietorship

All business types have their pros and cons. The following are the most significant of those, as related to sole proprietorships. 

Advantage 1. Simplicity.

No company type is more straightforward to establish than a sole proprietorship. As soon as you start operating or sell, it’s set up. Keep in mind, though, that some firms will need licenses or permits in some states. 

Advantage 2. Low tax rates.

The IRS doesn’t require a second set of business taxes to get paid for these companies. That means you’re taxed on your personal income, including that which comes through the business. This means the rate of tax you pay is lower than with other styles of company. 

Advantage 3. Control.

You are your business. If you have an idea for selling your products in a new way, you don’t have to get approval in a sales meeting. You merely start doing things the new way. In a sole proprietorship, you have ultimate control.  

Disadvantage 1. Unlimited personal liability. 

With ultimate control comes complete responsibility. There’s unlimited personal liability for owners of a sole proprietorship. That means you’re personally liable for all debts, losses, and legal action. If the firm fails, you’ll have to pay creditors from your personal assets.  

Disadvantage 2. Raising finance. 

It’s far more challenging to get funding for this type of company than any other. Banks and lenders are unlikely to offer a business loan to a sole proprietorship. There’s also no stock to sell to raise funds. Owners of these kinds of business, therefore, often explore other avenues. Those may include crowdfunding or virtual fundraising.

Disadvantage 3. Lack of longevity.

Without getting too repetitive, you are your business. As such, it’s rare for a sole proprietorship to outlast its owner. Once you retire or are no longer able to work, your company ceases to exist. These, therefore, aren’t the type of business to establish if you’re looking for a legacy.  

Conclusion

There are lots of styles of business from which an entrepreneur can choose. Sole proprietorships are by far the simplest. They often require no official paperwork and aren’t subject to extra business taxes. They do leave owners open, however, to having to settle all the firm’s debts personally. Those are the two principal factors to weigh if you’re thinking of setting up a sole proprietorship.