Sole proprietorships make up the majority of small businesses in the United States. In fact, by some estimates, 73% of all businesses formed are sole proprietorships.
Sole proprietorships remain popular because they are simple to set up and straightforward to run. However, even with their advantages, sole proprietorships may not be right for every situation. In fact, there are some instances in which having a sole proprietorship instead of an LLC limits your protections as an owner and might even restrict your potential for growth and expansion.
If you run a sole proprietorship but are wondering if an LLC may be better, keep reading. We've gathered some smart and simple reasons why forming an LLC can help take your business to the next level.
A sole proprietorship is the most simple and commonly used structure for businesses in the US. They are unincorporated and run by a single individual. Legally, there is no distinction between a business and the owner when operating as a sole proprietorship. The owner is entitled to all profits but is also responsible for any debts, losses, and liabilities.
A limited liability company, or LLC, has characteristics of several different business structures, including a corporation, partnership, and sole proprietorship. An LLC, like a corporation, has limited liability and offers pass-through taxation for its owners. Legally, there is a separation between the owners and the business itself for all debts, losses, and liabilities.
Most small business owners start as sole proprietors, but you can switch to an LLC at any time. While every situation is unique, making the change from a sole proprietorship to an LLC has many advantages. Below, we've outlined seven ways sole proprietors may benefit from forming an LLC.
Running a business is not without its risks. One upset customer could sue your business and put your entire livelihood in jeopardy. If you are a sole proprietor and get sued, the court can force you to pay damages by seizing your personal assets, including your home, car, and savings.
In contrast, an LLC separates the business from the owner. Lawsuits and creditors will only be able to seek payments from your company's assets. For this reason, many LLCs operate with bare minimum reserves to limit what can be taken in a lawsuit.
By default, with a sole proprietorship, the legal name of your business is your own. Forming an LLC allows you to do business in your LLC's branded name, potentially giving you added trust and credibility with customers and clients. However, with both types of business structures, you may have the opportunity to operate under separate names entirely by filing a DBA (doing business as) application in your state of operation.
As a sole proprietor, your business's income is considered your personal income, and you will be taxed as a self-employed person by the federal government and state governments where you operate. Forming an LLC expands the possibilities of how a business's income can be taxed.
As an LLC, you can decide to pay tax as a corporation, partnership, or sole proprietorship. These distinctions are especially advantageous when multiple owners share profits and losses. Typically, an LLC is structured to take advantage of pass-through taxation, allowing the income to be taxed once it is passed on to an owner, avoiding double taxation.
In a sole proprietorship, all decision-making rests on the shoulder of the single owner. LLCs open up the possibility of having multiple owners and almost limitless management roles within the organization. In an LLC, owners can choose to retain control of decision-making authority or delegate it to managers. This ability to transfer or share in the day-to-day operations and decision-making can provide you additional time and freedom.
Owners of an LLC are called members. Each state has individual mandates when it comes to LLC membership. Members may not be minors under the age of 18, but beyond that, very few restrictions exist.
At a minimum, your LLC will need to have one member — yourself. You can then add more members if you choose. Being a legal member of an LLC entitles a person to a portion of profits and voting rights. There are no standard requirements for how often LLC members must meet, but once a year is typical.
Having the flexibility to add members to your LLC and give them a share of profits may help attract investors and raise funds. The ability to sell a percentage of your business in exchange for ownership is a major way it differs from a sole proprietorship, which can have only one owner at a time. In this way, forming an LLC opens up a world of possibilities for additional partnerships, investors, and owners.
In addition to individual investments, most small businesses will require a business loan at one time or another. As a sole proprietor, your personal assets must be used as collateral for business debt and might even be seized if you are unable to pay the loan back.
As the name implies, a limited liability company allows owners to borrow money without risking their personal assets if the loan cannot be paid back on time. This helps keep your home, car, and savings protected if the business hits hard times and defaults on a loan.
It is essential to note that limited liability might not apply in every instance. For example, a small business just starting out will not be able to show a lender a long track record of income and profit. In these cases, the lender might require personal guarantees outside the assets of the company itself. As your LLC begins to repay loans and establish a financial track record, you should be able to borrow money without the need for additional personal guarantees.
If you are operating a sole proprietorship, but are ready to take full advantage of some of the benefits we mentioned above, like shared ownership, limited personal liability, and pass-through tax advantages, then Swyft Filings can help you get started.
We know forming an LLC can be expensive and time-consuming, but we have created an easy-to-use system to change all of that. Reach out to our team of LLC experts today, and we'll let you know what paperwork you need to file and can even give you resources to have it done for you, freeing up time for you to focus on what your business does best.
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