What is a sole proprietorship? What are its advantages and disadvantages?

| Updated: July 8, 2017 |

 What is a sole proprietorship? What are its advantages and disadvantages?

Sole proprietorship is the most common form of business. It is also the simplest structure and the one that is the easiest to start, usually requiring no or scarce formal action. The most important feature of a sole proprietorship is that there is no distinction between the business and the owner. Sole Proprietorship is an unincorporated business owned as well as run by a single individual. A single person, the owner holds the entitlement of the profits as well as the responsibility of the debts, losses and liabilities.

How does the status of Sole Proprietorship arise?

No formal action or paperwork is required to start a sole proprietorship. The status comes automatically from being the sole owner of a business and one  may own a sole proprietorship without even knowing it. Suppose, one is a freelance writer; he is the sole owner of his business and in this way a sole proprietorship.  However, the necessary licenses and permits should still be obtained. The regulations may vary from state to state as well as by industry or locality. In case someone wishes to operate with a name different than his own then he needs to file for a fictitious name. One should choose an original name that has not been claimed yet by any other business.

Taxation of sole proprietorships: Since the business and the individual are the same, they cannot be taxed separately but once since the sole proprietorship income is the owner’s income. The sole proprietorship owners report their income and/or losses and expenses using a Schedule C and standard form 1040. Specific information on sole proprietorship taxes can be found at IRS.gov.

Main advantages:

Sole proprietorships offer some key advantages due to which they are preferred over the other forms.

–        Easy to form as well as inexpensive:

This is the first and most important advantage of having a sole proprietorship. Of all the business structures, it is the easiest as well as the simplest and also the least expensive to establish. The only legal costs may be related to acquiring the necessary legal permits and licenses. Apart from it there are nearly no costs involved.

–        Full control:

Another important advantage offered by the Sole proprietorship is full control of the owner on the business. One exercises full control over the business decisions because of being the sole owner. In case one needs to make any crucial decisions or any changes he would not need to consult anyone but can take his decisions freely as he is in full control.

–       Tax preparation-

There are no complexities related to tax preparation since business and individual are not legally separate and therefore fulfilling the tax requirements is easy. Not just this, but of all the business forms, sole proprietorship  offers the least tax rates.

Disadvantages:

Apart from the benefits that a sole proprietorship provides, there are some disadvantages too and some specific kinds of burden associated with it.

–        Personal liability unlimited:

As there is no legal separation between the person and his business, the business owner can be held liable for the taxes as well as debts and the other obligations. The risk also extends to the harms or losses incurred due to employee actions.

–        Raising money is difficult:

Often it is difficult to raise investment because one cannot sell stocks. The banks too hesitate to lend the sole proprietorships due to a lack of credibility.

–        Burden:

On the one hand while the owner exercises full control, its flipside is that the entire burden also falls on the owner. One is solely responsible for the successes as well as the failures of his business.

Sole proprietorship is for people with small businesses that do not want any legal hassles or tax related complexities. Their simple structure makes them easy to run as well as easy to manage. Apart from it the owners have full freedom of decision making.  Business and owner are one, are not taxed separately as well as the profits and liabilities of the business are both of the owner.

Abhijeet Pratap

I am Abhijeet Pratap, editor of notesmatic. I am an MBA with marketing (major). Apart from writing on various topics in business management, marketing and English literature, I like to read and write about technology.