5 Sole Proprietorship Pros and Cons

Cody Cromwell
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Sole Proprietorship Pros and Cons

When first starting out you may be thinking a sole proprietorship is the ideal way to go. But chances are you would be wrong. Consider these pros and cons of being solely responsible for yourself:

Pros:

  • Avoid the cost of a business license, state/federal taxes, workers’ compensation insurance, and business insurance
  • Can use your personal assets for business investment
  • Can avoid personal liability

Cons:

  • You’re solely responsible for business decisions
  • Unlimited liability for 100% of the business

5 Pros of a Sole Proprietorship

The most obvious benefit of being your own boss comes in the form of freedom. No one else has to answer to you for anything that you do, so you can take on more of a challenge than you’re capable of taking without that added burden of worrying about other people.

When you maintain your sole proprietorship, you’re also responsible for ensuring that your business is financially successful. You avoid outside influence from varying sources of departments that you don’t have to worry about.

Your sole proprietorship can apply to a variety of different types of business. You’re not limited to being a sole proprietor when you’re starting out, either. You can transition from sole proprietorship to more serious corporate entities by expanding your business title over a period of time.

Because you’re your own boss, it’s also easier to avoid office politics. You’re the one who calls the shots, and that can go a long way in promoting peace and harmony within your team.

Easy Setup & Low Cost

The biggest advantage of sole proprietorship is the ease and low cost of starting a business. Each year, thousands of new sole proprietorships are begun by individuals who wish to start small businesses in one of the many service-related trades.

Sole proprietorships allow you to take advantage of several tax deductions, including:

  • Any business-related travel expenses deducted as a me
  • Any interest expense on business-related loans
  • Any investment interest expense
  • Any cost of medical insurance (Sole proprietors cannot deduct the cost of a health insurance policy if the company is a partnership)
  • Any cost of office rent for the first two years (but not for the third year)
  • Any attorney fees or court costs associated with the formation of a sole proprietorship
  • Classes of Tax Deductions

Sole proprietorships are one of four types of business structures, and they fall under the broad categories of:

Subchapter C: These are "pass through" businesses. As such, profits and losses flow directly through the business and are reported on your personal tax returns. Performing a variety of different business activities in this category do not trigger any unrelated business taxable income (UBIT) rules.

No Corporate Business Taxes or Double Taxation

It’s all too easy to think that sole proprietorships don’t have any tax advantages. After all, when you start out, you only have a –free” business card. Once you start making a profit, however, you’ll quickly realize that the advantages of a sole proprietorship will pay for themselves many times over. In the next few sections, we’ll take a look at some of the biggest pros and cons of becoming a sole proprietor.

The Pros of a Sole Proprietorship:

No Corporate Business Taxes

No Annual Reports or Filings

One benefit of a sole proprietorship is that you don’t need to create an annual report or file any annual paperwork. Simply open a bank account to receive the daily deposits and have cash on hand.

Some people mistakenly think that the owner of a sole proprietorship needs to have a business license, but that’s not the case. Having a license can help with acquiring business insurance, while creating a business plan can help you more strategically approach the planning and implementation stage.

However, two important things to stress are:

A sole proprietorship is NOT personal tax reporting. For example, if you have only one employee, you do not have to report his wages on your personal tax return as you are still the sole proprietor. If your sole proprietorship becomes a corporation, it will need to have a W-9 or you can request form W-4 to establish payment information.

The IRS often changes the publication you need to visit based on your business type, so it’s a good practice to always check the IRS website for the correct information.

Not Restricted by Formal Business Structure

Easy Record Keeping

Several sole proprietorship record-keeping systems claim to keep things simple. But the truth is, even the most sophisticated systems can cloud a business owner’s day with papers to sign, tax and timesheet reports to keep and even worse, the Office of the Chief Financial Officer.

A sole proprietorship, on the other hand, doesn’t need or typically use any of these extra services. As the business owner, all of your financial reporting is done through your personal records in a simple spreadsheet.

But that’s not all. Unlike a partnership or a corporation, financial reporting with a sole proprietorship isn’t limited to your annual tax filings. You can use your sole proprietorship to keep all of your personal finances, including the books and records for your business, in one place.

According to the Internal Revenue Service, the fact that your sole proprietorship reports only the profit information necessary for a 1040T doesn’t eliminate the need for IRS reporting. You also need to file a business tax return.

5 Cons of a Sole Proprietorship

This type of business is usually the easiest to launch. You don’t have to spend a lot of time and money trying to obtain permits or other permissions. It’s also easy for a sole proprietorship to begin operating with minimal overhead. Just the owner works there and takes care of everything.

The downside of a sole proprietorship’s low-overhead is its low profitability. The small amount that you need to spend to get started gives a small business owner the chance to make a good profit as the business grows.

A sole proprietorship is a low-risk business. Although it can be a good way to get started and learn how to run a business, there are some disadvantages as well. A sole proprietorship is one of the least complex businesses. Although nothing is stopping you from taking it as far as you can, you’re not required to make any special disclosures to the IRS, and you’re not required to do any recordkeeping.

Another potential drawback of a sole proprietorship is its personal liability. All of the owner’s assets are at risk should the business fail, so only invest what you can afford to lose if you choose to start a sole proprietorship.

Unlimited Liability

No Ongoing Business Life

As an owner, there are certain advantages and disadvantages to being the sole owner of your sole proprietorship. If you are going to own a sole proprietorship, then it is recommended that you have business experience or at the very least people who can advise or offer assistance.

You Have Complete Flexibility

If your business sells, you can do what you want and take your profits.

You Can Pursue Several Business Opportunities without Forming New Companies

Q: Thinking of starting a sole proprietorship? Thanks for your time. What are the advantages of being the sole proprietor?

A: Being the sole proprietor is a good way to go if you don’t want to pay someone else to do the work for you, and if you’re not sure how much effort you would need to get to where you want to go. It’s good for people who want to do something on their own for a while and to figure out if it’s for them. If you want to run a small business, it’s also a good option to test the waters.

Difficult to Raise Capital

Can’t Take on Business Debt

If you run a sole proprietorship, you can’t take on business debt or risk forming a partnership with someone else. That’s because you run the business under your name.

But despite this rule, sole proprietorships can still thrive. Sole proprietorships have very low overhead costs and they don’t need a formal business structure to operate.

Sole proprietorship businesses must also adopt a business structure and improve their business practices over time to grow their businesses.

With little cost, business debt, and the ability to form a partnership, sole proprietorships can be a viable option for many business owners who are interested in starting their businesses out on their own.

Perceived Lack of Professionalism

For your first business, you want to go on the endeavor you built yourself. It makes no sense to do something you have no experience in. Your first business will fail unless you take it seriously.

Certain businesses need a degree in order to get started, while others may only require professional experience. Restaurants, hairstylists, and barbers, for example, typically require gaining experience or even a license to practice.

Showing up to work dressed in some ratty clothes is obviously not the best way to make your first impression. You may find that people aren’t willing to put in the legwork for your business idea because of your lack of professionalism.

Although you may have some reservations about learning the basics of running a business, you have to understand that it’s necessary. Once you get started and realize how much work is involved, running a business for your Sole Proprietorship should be viewed as a fun experience.

Sole Proprietorship Examples

Amazon Businesses

Business Amazon – Business Amazon is a service that lets sellers from all over the world sell their goods to an international customer base. Once you start creating an Amazon business account, it will show you that you have two options to start selling on Amazon:

  • As a standalone business seller
  • As a business seller with an Amazon Official business Store

If you choose the standalone business seller option, don’t worry; you can sell to any country on Amazon. If you don’t want to sell to any specific country, however, then you need to use the exclusive third-party seller option.

In the third-party seller option, you will be selling through a specific account set up by Amazon on your behalf. You will need to set up your own input methods for your account in order to follow the rules of this option. In the end, after you have actually created your third-party seller account, you will be able to sell on Amazon to any country on the site, provided that that country does not already have an existing third-party seller agreement on Amazon.

As you can see, there are some good and even great opportunities with becoming an Amazon business seller. However, that’s the risks as well.

Etsy Shops

Other Personal Businesses

There are some pros and cons that you should consider about starting a sole proprietorship. One of the main pros to adding a sole proprietorship to your portfolio is the fact that it is the cheapest form of personal business. A sole proprietorship is the simplest type of business structure and the most basic form of business. It is used by people who do not want to form more than one type of business structure.

With this type of business, you can start a small business with little or no added liability to your personal finances and other things. You will have to decide for yourself if you want to alter the type of liability you take on. Sole proprietor business is a great way to start your small business and be your own boss. Just make sure you know what you are getting into.

Alternatives to a Sole Proprietorship

The risks associated with being a sole proprietorship are a major reason why some entrepreneurs consider operating a sole proprietorship as the first step in their business and others consider this as a stepping stone to operating as a general partnership or limited liability company (LLC).

Although the owners do have personal liability for the debts and taxes owed by the business, the owners are also able to reap the benefits of the discounts that may be offered and get the benefit of what is often called the increased income protection afforded to sole proprietors as well.

Should you go into business alone or as a general partnership or LLC? Here are the pros and cons of a sole proprietorship and the pros and cons of operating as a general partnership or an LLC.

Limited Liability Company (LLC)

There are times businesses fail because of bad management or lack of planning, but generally, there are problems also with the business structure itself. Sole Proprietorship is an option for individuals who want to set up their own business without using the help of a corporation.

The Sole Proprietorship business differs from other forms of business structures in two ways. Firstly, the owner owns 100% of the business. Secondly, it does not operate under form of an LLC or Corp. There are many advantages to using a Sole Proprietorship especially when you take into consideration the tax free nature of the business structure. On the other hand, with the limited liability nature of the business structure, you do not receive the protection of most bank accounts or other corporate owned assets.

Limited Liability Partnership (LLP)

A sole proprietorship is a business owned and operated by one individual. If you decide to go into business on your own, chances are you’ll start out with a sole proprietorship. It’s a good way to avoid the time and money of filing the paperwork required for a full-blown business entity. But it doesn’t come without its own drawbacks.

Sole proprietorships depend on the effort and skill of one individual … that being you. And occasionally, you may come up against a problem that’s out of your control. Like illness or injury, for example. Or a creditor may come after you with a lawsuit because you haven’t paid your bills. Because sole proprietorships are so easy to start and contract, it’s not unheard of for sole proprietors to bring the business into bankruptcy due to incompetence or ineptitude. It’s a headache – to say the least.

S-Corporations

C-Corporations

We all know that forming a sole proprietorship is one of the easiest business structures to start in the United States because they are easy to start and are not taxed at the corporate level. Sole proprietors also have unique tax protections afforded to them under the IRS code.

One of the wonderful advantages of being a sole proprietorship is that the IRS does not tax business profits at the corporate level. This is true both with C-Corporations (taxed at the corporate level) and S-Corporations (taxed at the personal level). Most sole proprietors file their tax return using their name as the business name and their social security number as the business ID number.

By doing this, the IRS will not feel that the sole proprietorship is taking advantage of its rules and tax exemptions. But the IRS does look at a businesses profits as the actual ownership person is the one who gets the earnings from the business.

So a sole proprietorship is a great choice if an individual doesn’t want to be treated as an owner in the eyes of the IRS – both individually and as a member of that person’s family.

Who a Sole Proprietorship Is Right For

Frequently Asked Questions (FAQs)

Why Sole Proprietorship?

Sole Proprietorship is great for the following reasons:

What Advantages Does an LLC Have Over a Sole Proprietorship?

Why Is It Good to Be a Sole Proprietor?

Do You Have to Register as a Sole Proprietor?

You may decide Soleproprietor Company offers you the best way to run your business as a sole trader.

But first, you must be sure soleproprietorship is the right business model for you.

Soleproprietor Company could be the best business model for you.

Soleproprietorship Pros

Whatever your professional plans may be, becoming a sole trader could be the best solution for you.

Benefits of Sole Proprietorship:

You can become your own boss, and set your own rules.

Have a greater level of control over the direction of your business.

Set your hours and work when you want.

Running your own business could also be much more lucrative.

Renewable protection when you can’t work for extended periods due to illness or injury.

Establishing soleproprietorship will allow you to run your business from anywhere in the world.

Some professionals may enjoy the challenge of working independently and the freedom to set their own hours.

Better earnings if you choose this type of business model.

Business expenses are likely to be lower.

Greater control if you can write off all your costs.

Lower tax liability, meaning a smaller tax bill and more money in your pocket each month to spend.

How Do I Pay Taxes as a Sole Proprietor?

Sole proprietorship is an independent private business set up by a single individual to conduct business for their family and or personal income. Sole Proprietors pay taxes on the net income or profits that they earn, unlike a corporation which is a business they set up to pass on to a second party.

The Single Tax System is a system of taxation established in the United States that taxes only the net income of an individual or corporation, which is the amount of the income over expenses. In this system, the individual or corporation pays taxes at a single rate on all income and does not have to pay the taxes again on that income at individual rates.

This system sounds like a great deal to the business owner, since they do not have to pay taxes on the entire income, only on that part of the income that they keep for themselves. However, when you are just starting your business, this can be a risky proposition. If your business isn’t successful, then you’re going to have to pay tax on all your income. This can be a heavy pill to swallow, considering that you have only a limited amount of income.

Bottom Line

How Sole Proprietorship Works

If you decide to become a sole proprietorship business owner, you’re going to need to understand the value of being your own boss. In the book The Big Picture Success, the authors, Elizabeth and Stephen Holcombe, do a good job of laying out the pros and cons of owning your own business.

Let’s break down the main points in The Big Picture Success.

Pros of Owning Your Sole Business

  1. Being your own boss opens up a wide range of career opportunities. Besides the fact that you can pursue whatever type of business you like, you also have the flexibility to work when and where you want.

{1}. Assemble a team wherever you want. Rather than work for a large company, you can travel and meet with team members whenever you want.
{2}. Gain control over your future. You have the ability to set your own hours (or work fewer hours) and enjoy a new sense of freedom.
{3}. Make a significant difference…and significantly increase your earning potential. Entrepreneurs have the opportunity to creatively build a business. Freed from the traditional model, entrepreneurs have more room to innovate.

Cons of Owning Your Sole Business

  1. Before you become a sole proprietor, you must have assets that you can use to cover start-up costs.