If you’re an entrepreneur, you might have wondered about the best way to launch your small business. In the beginning of establishing your business entity, your leading choices will likely be between registering as a sole proprietorship or a limited liability company (LLC). The one you choose will depend on your needs and priorities as a new business owner. We’ll go over the pros and cons of each to help you determine which option is best for you and your business.
What are the main differences?
An LLC may have one owner, or it could consist of multiple owners. An LLC business is defined as a separate legal entity from its owners. The LLC’s members are not held responsible for business debts or other liabilities obtained by the business, including injuries, accidents, or lawsuits. Instead, the LLC business itself will be liable.
On the other hand, a sole proprietorship is always owned and operated by one person only. The owner of the sole proprietorship reserves the right to all business profits but this person is also responsible for all debts and liabilities of the business as well.
Advantages to an LLC
The biggest benefit of having an LLC over a sole proprietorship is personal liability protection. As an LLC, all your personal assets such as your home, car, and personal financial accounts, are protected from business debt collection or, in the event your business is sued, you are also financially protected from legal claims against your business.
On the other hand, a sole proprietorship doesn’t offer this type of protection as there is no legal separation between you and your business. Any debts and obligations of your business will concern you personally. If your business is sued or there are debt collection actions filed against your business, you are responsible for paying the debt or settling the claims.
Advantages to a Sole Proprietorship
In a nutshell, starting a business as a sole proprietorship is simpler, less expensive, and less complicated than launching an LLC. One simplification that sole proprietorship offers is that you aren’t required to legally separate your business and personal finances by keeping separate bank accounts.
However, you do need to keep accurate and updated financial records for your business, including business income and spending, in case you are audited by the IRS.
As an LLC, you are required by law to keep separate accounts for business and personal in order to maintain LLC status and the liability protection it makes available to you. If you combine your business and personal accounts, you could potentially lose your limited liability protection.
In the event that debt collection or a lawsuit lands you in court, a judge could rule your LLC null and void if you mix personal and business capital, in such case you lose all liability protection and your personal assets could even be used to pay off debts or settle legal claims.
With an LLC, you must register with your state regardless of what business name you choose. LLC registration gives your business name protection within your state since there cannot be more than one LLC of the same type or industry with the same name. Also, you must file articles of organization and write an operating agreement to document the rights and duties of the members. A sole proprietorship does not require any of this.
As an LLC, you’ll owe a filing fee, which varies by state. You may also be required to pay to renew your LLC recurrently, and some states may require annual reports. On the other hand, a sole proprietorship requires no such filings.
Closing thoughts
Depending on your needs and desires as a business owner, whether it’s liability protection or simplicity and peace of mind, the choice may be clear as to which type of business structure you should choose. Some business owners take comfort in knowing they are legally protected from financial claims against the business, while other business owners prefer to keep things fast, easy and simple. It’s your decision to choose what’s best for you and your business. You can always make changes to your business structure should your needs and priorities change later on down the road.
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