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What's the right business entity for you? Examining sole proprietorships - II

Last week, we began discussing how budding -- or perhaps even accidental -- entrepreneurs may want to consider organizing as a sole proprietorship, one of the most popular business structures.

To recap, a sole proprietorship is an unincorporated business entity owned and operated by a single person whose status is automatically derived from their business activities, meaning no incorporation-related documents have to be filed with the state. 

What are the tax obligations for sole proprietorships?

Another aspect that separates sole proprietorships from its counterparts is its tax obligations. Specifically, since there is no real distinction between the venture and the proprietor in the eyes of the law, a sole proprietorship is not taxed separately.

In other words, its income is considered your income, so you report it as such to federal and state tax officials.

What are the benefits of organizing as a sole proprietorship?

According to the U.S. Small Business Administration, the three primary advantages of organizing as a sole proprietorship include: 1) the aforementioned simplified tax reporting requirements, 2) the granting of complete authority over all business-related matters as you, and you alone, are in charge, and 3) the simple and inexpensive formation requirements.

Are there any potential disadvantages of which entrepreneurs should be aware?

Despite all of the advantages of organizing as a sole proprietorship, experts indicate that there are potential pitfalls of which people should be aware.

First, they contend that it can sometimes be difficult for a sole proprietorship to raise capital given the lack of stock that that can be sold to prospective investors and the concerns on the part of banks about repayment in the event of failure.

Second, they argue that while it can be liberating to be your own boss, it also means that the ultimate success or failure of the business will rest squarely on your shoulders.

Third, and perhaps most significantly, they indicate that there is no legal separation whatsoever between the owner and the business, such that they can be held personally responsible for all debts and losses of the business, as well as other liabilities, including harm caused by an employee. 

Here's hoping the foregoing information has proven helpful. Consider speaking with an experienced legal professional if you have questions about business formation or related transactional matters.

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