Sole Proprietor vs Single Member LLC: The Complete Comparison
Read this article for the complete comparison of a sole proprietor vs single member LLC. Everything you need to know before you start your own single-member LLC.
As a self-employed sole proprietor you’ve probably asked yourself, should I form an LLC? You’re probably wondering what’s the difference between a sole proprietor vs single-member LLC. This is especially true if your business is growing. As your business grows it is natural for you to ponder questions about what is the best way to support your business and most importantly your customers.
However, even if you’re a self-employed sole proprietor with a business that isn’t rapidly growing you might be wondering if it’s in your best interest for your business to form an LLC. A single-member LLC to be specific. This might be true even if you’ve been operating it for a while and have a steady income stream.
In this article, we compare a sole proprietorship to an LLC. This article provides the most thorough and complete comparison of a sole proprietor vs single-member LLC on the web. We go over everything that you need to know, in detail. Such as the advantages and disadvantages of both. Our goal is to help you evaluate what is best for you and your business. However, we do have our opinions, and in our opinion, we think it is better for all sole proprietors to take the leap and start their own LLC.
Read on to learn about the comparison of a sole proprietor vs single-member LLC.
What is a Sole Proprietorship?
A sole proprietorship is a business owned and run by one person where there’s no distinction between the owner and the business. Sole proprietorships are considered informal businesses that are not formal, legal, business entities.
What is a Single Member LLC?
A single-member LLC is a term used for an LLC with only one owner. LLC is the acronym for Limited Liability Company, and sometimes single-member LLC is abbreviated as SMLLC. Owners of LLCs are called members. A Limited Liability Company with more than one member is known as an LLC or an LP. LP is the acronym for Limited Partnership.
Single-member LLCs are formal legal business entities.
What does “formal legal business entity” mean?
A formal legal entity is any company or organization that has legal rights and responsibilities, including tax filings. In addition, a legal entity, such as a single-member LLC, can enter into contracts and can be sued or sued in a court of law.
What is an LLC?
An LLC is a Limited Liability Company. An LLC is a formal legal business entity; therefore, it must be registered with the state where it is formed.
Sole Proprietor vs Single Member LLC: Similarities & Differences
In this section, we go over some of the similarities and differences between an LLC vs sole proprietorship. However, it isn’t until the next section that we go over the advantages and disadvantages of the two different business entities.
So keep reading!
Sole Proprietor vs LLC Differences
We wouldn’t be presenting you with the option of forming a single-member LLC if there weren’t differences from your existing business operations as a sole proprietor. So here they are.
A single-member LLC provides you with personal liability protection in the event of any wrongdoing. For example, if wrongdoing is committed by you or the employees of your LLC, you are personally protected, and your assets are personally protected, from the cost of the resulting damages.
When you’re a sole proprietor your business name is typically their surname unless they register as DBA (doing business as). When you’re an LLC owner you can pick a legal name for your business and this can be any brand name that you choose. A brand name will make you look more professional and give you credibility.
Registration and Maintenance Costs
LLCs cost money to register and maintain, while sole proprietorships do not cost any money to register or maintain. However, you register an LLC with the state of your choice, and some states have very low registration and maintenance costs. Read on to learn which states are the cheapest.
Sole Proprietor vs LLC Similarities
There are a few similarities that a sole proprietorship and a single-member LLC share. Read below for the similarities.
The benefit of pass-through taxation is to not pay taxes twice. Paying taxes twice is also known as double taxation. With pass-through taxation, the income your business earns, whether you’re a sole proprietor or an LLC, “passes through” to your income.
This means you don’t pay business tax on the income your business makes, and then tax a second on your personal income you pay yourself from your business profits. Hence, the reason it is called “pass-through”–the business’s income passes through directly to the owner.
In the United States, 95% of businesses are pass-through businesses. The reason for this has to do with the benefits of pass-through taxation. Both LLCs and sole proprietors enjoy the advantages of pass-through taxation.
Employer Identification Number (EIN)
An EIN is required for Sole Proprietors and LLCs to open a business bank account or hire employees.
Payroll Tax Withholding
This only applies if you have employees. Both LLCs and sole proprietors have to withhold payroll tax if they have employees.
Sole Proprietor vs Single Member LLC: Advantages & Disadvantages
Sole Proprietorship Advantages
No Upfront Costs
We only see one advantage to operating as a sole proprietorship. That advantage is that there are no upfront costs. Truth be told, to start an LLC you have to pay for formation costs. However, these costs can vary a lot from state to state, with some states being very cheap. For example, at the writing of this article, the cost to form an LLC in Wyoming is only $100.
Single-Member LLC Advantages
Personal Liability Protection
As the name says, LLCs limit their owner’s liability.
What does this mean for you as the owner of a single-member LLC?
This means that your personal assets, such as your car, bank account, house, etc., are protected if your business is sued or defaults on debt.
As a single-member LLC, you have options to customize your tax structure. Therefore, you can choose what tax strategy is best for your business and business or personal circumstances. Consult a Certified Public Accountant (CPA) to determine what tax strategy is best for your LLC.
As a single-member LLC, you can grow your revenues, profits, and risk without personal risk. This is because of the personal liability protection provided by LLCs.
Trust and Credibility
Banks and customers tend to trust LLCs, including single-member LLCs, more than information business structures such as a sole proprietorship.
Sole Proprietorship Disadvantages
No Personal Liability Protection
As a sole proprietor your personal assets, such as your car, bank account, or house are at risk in the event your business is sued. This also includes if your business defaults on its debt.
Fewer Tax Benefits
As a sole proprietor, you pay taxes on your profits; you also pay full FICA taxes (Medicare and Social Security tax). For a profitable business, this is expensive.
Growth Potential Limited
As a sole proprietor, your risks increase as your business becomes more profitable. Increased profit and risk mean a need for a formal legal business entity. For example, do you own a car, a house, or other assets? If you answered yes, keep reading.
As your business grows your risks of being sued grows. An upset customer sues you. Whatever the reason, if you’re sued, and you own assets, or have a lot of money in your personal bank account, those assets could be taken from you as part of the lawsuit.
Sole proprietors don’t have the same branding opportunities provided by a single-member LLC (or other formal business entity). This often results in less credibility. When a sole proprietor invoices, opens a business bank account, receives payment, or does any kind of marketing, they must use their surname. The only exception to this is if the state where you operate as sole proprietor allows you to register as doing business as (DBA) name.
Single-Member LLC Disadvantages
Upfront Cost and Maintenance
The cost of forming an LLC is only a few bucks in some states, with the registration cost in Wyoming being a mere $100. However, for some, this might be a lot so we thought we would add it here. However, we do feel that the advantages of an LLC far outweigh operating as a sole proprietor.
In addition, for some, it might feel like there is extra complexity when it comes tax time and with the annual maintenance fee processing. However, this is not different than all the new things you had to get acquainted with to be a sole proprietor. Therefore, as you know from experience, over time you learn, and it becomes easy.
When is it better to be a sole proprietor?
We feel every sole proprietor should form a single-member LLC. However, there are some cases where it’s probably better to stick to being a sole proprietor.
So when is it best to stay a sole proprietor?
Sole proprietorship is best for small businesses with these attributes:
- Your business is low-profit
- Your business is low risk
- You have a few customers (i.e. friends and neighbors)
- Your business is also a hobby (i.e. blogging, photography, etc.)
When is it better to be a Single-Member LLC?
We recommend that nearly all sole proprietors form an LLC. With that said, these are the attributes of a business that most certainly should form an LLC.
- Your business has a lot of customers
- Your business has extra risk of liability or loss
- You would benefit from unique tax options
- Your business has the potential for immediate and sustainable profit
Are you ready to form an LLC?
Check out these guides for a complete overview of the two lowest-cost states where you can form an LLC.
Wyoming Single-Member LLC: A Complete Guide
Delaware Single-Member LLC: A Compete Guide
How to Evaluate Your Liability
At the end of the day, it’s a personal decision whether or not you form a single-member LLC. However, in this section, we want to provide you with some perspective to help you think through the concept of liability. Therefore, you can evaluate for yourself how liability plays into your decision to form an LLC or not. With that said, our advice is to consult a lawyer if you’re interested in going really deep on this topic.
LLC for Self-Employed
Self-employed individuals can form an LLC. In this article, we provided everything needed for self-employed individuals to evaluate whether or not to form an SMLL.
How do I start an LLC?
Starting an LLC is easy. Follow these simple steps to start your single-member LLC.
Step 1: Pick a name for your LLC
Step 2: Choose a state for your LLC
Step 3: Choose a registered agent
Step 4: File you Articles of Organization
Step 5: Create an Operating Agreement
Step 6: Get an EIN
Frequently Asked Questions
Can you have an LLC and be a sole proprietor?
By definition, a Limited Liability Company, including a single-member LLC, cannot be a sole proprietor. As a sole proprietor, you own and operate your own business. However, a sole proprietorship is not a corporation.
A Limited Liability Company is a business and a legal entity. To be more specific, an LLC is not a corporation and it is not a sole proprietorship. Therefore, you cannot have an LLC and be a sole proprietor for the same business.
Is it better to have an LLC or sole proprietorship?
If you ask us, we think it is much better to have an LLC, even if you’re a solopreneur. The benefits far outweigh the disadvantages. You get liability protection from an LLC, so if you own an asset, such as a car, none of your customers or vendors can sue you and get it. In addition, get to take advantage of the perks of a custom-crafted brand. Having your own brand adds credibility and professionalism to your business.
Do you need an LLC to be self employed?
You are not required to have an LLC to be self-employed. You can work as a sole proprietor if you’re self-employed. Read this article for the advantages and disadvantages of a sole proprietorship vs single-member LLC to help you decide. Personally, we feel all self-employed individuals, with few exceptions, should form a single-member LLC.
Is a single member LLC an independent contractor?
An independent contractor can form a single-member LLC that they own and run as a one-owner business.
Conclusion: Sole Proprietor vs Single Member LLC
We think that the advantages of an LLC far outweigh the disadvantages and that every self-employed individual should form one. Hopefully, this guide was helpful in your evaluation of a sole proprietor vs a single-member LLC.
We would love to hear your story, and so would our readers, about why you created a single-member LLC? Or why you stayed as a sole proprietor.
We are a community of small business owners that love to share and help each other.
So don’t hesitate to share your story in the comments or reach out to us at firstname.lastname@example.org, and we could even feature your story on our blog.
Thanks for reading and leave any questions you have in the comments.
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