In our last blog post, “Does Your Sole Proprietorship Require a Federal Tax Id?” we briefly discussed the definition of a sole proprietorship. In this follow-up post, we describe more in depth and compare the benefits and disadvantages of a sole proprietorship to those of a limited liability company (LLC). When aiding clients in business formation, it is important to address the specific needs of each client in order to determine which form of business entity is a best fit.
In a sole proprietorship, there is one individual titled as owner and the business name is the same as the owner’s name, unless the owner files for a fictitious business name. Furthermore, only an individual may be the owner of a sole proprietorships. LLCs, corporations or any other type of business, may not be titled as owner of any sole proprietorship. With this strict individual ownership, the profits of the sole proprietorship are listed on the personal tax returns of the business owner.
LLCs on the other hand, have no limit to the number of members/owners. There may be one member or several and membership is not limited to individuals. Corporations, other LLCs, or foreign entities may be LLC owners. LLCs provide more flexibility in the selection of business names as well. The only requirement is that the name contain the correct abbreviation for a limited liability company (depending on the state), at the end of the business name.
A sole proprietorship is the easiest business to form. One must only participate in a business transaction to be considered a sole proprietorship. Such business entities are not required to be chartered by any state.
When creating an LLC, articles of organization or a certificate of formation must be filed in its state of operation. The associated fees with such filing must be paid and the information listed on such articles includes the number of managers or directors in the LLC and the purpose of the business.
While the owner of a sole proprietorship has unlimited power of the decision making in his or her business, and thus actions may be taken much more quickly than in an LLC, a sole proprietorship owner also carries the weight of his or her business debts and is personally liable for any occurrence concerning the business.
Limited Liability Companies might take longer to carry out decisions due to the possibility of numerous owners having to act together. However, business liabilities and debts belong only to the separate business entity. When properly set up, individual owner’s assets can be protected from business related claims. Thus, generally, creditors may not pursue any personal wealth of LLC members.
At the end of the day, there is no absolute answer to whether a sole proprietorship or an LLC prevails as the better business choice. Every business should be formed individually and based on its and its owners personal needs. Thus, determining the facts about your potential business and comparing them to the aspects of different business entities is the best method to determine which business formation better suits you.