Should You Incorporate as a Sole Proprietor or LLC?

Is there such a thing as a right or wrong entity to form when first incorporating your business? Personally, I don’t think so as long as you do make it a point to incorporate.

Many entrepreneurs will usually pick a sole proprietorship or a limited liability company (LLC) as their entity of choice. If you don’t know the difference between the two, or need a little help determining which legal structure is the best fit for your type of business, read on.

Sole proprietor

What do I need to know about this entity? This may be one of the simplest legal structures to incorporate as and one of the most popular, with 70% of U.S. businesses having incorporated as sole proprietors. There’s minimal paperwork involved and it’s fairly affordable. Entrepreneurs turned sole proprietors can also exercise complete control of their businesses, allowing owners to be the boss.

What types of businesses benefit the most? Sole proprietorships are generally best suited for businesses where there is little to no personal liability risk. E-commerce businesses or companies that can be run from home without a physical storefront, like a consultancy, tend to thrive the most under this entity.

What else should I know when incorporating as a sole proprietorship? Remember when I mentioned this entity is best for businesses with little to no liability risk? That’s because incorporating as a sole proprietor does not separate the business from your personal assets. Entrepreneurs that are sole proprietors are held completely liable for everything that happens to the business because the entity does not provide tax or liability assistance. Some areas they may be held liable for include company debts, employee accidents or injuries, damaged products, loss of valuable information, and lawsuits.

Additionally, sole proprietors face more financing challenges than most entity types. Once again, this is because there isn’t a separation between professional and personal assets. If an entrepreneur wants to expand their business, line of credit, or reach out to potential investors, requests will be made to view their personal credit history instead of the history of the business, since it doesn’t have one of its own.

Limited liability company (LLC)

What do I need to know about this entity? Incorporating as an LLC provides small business owners with liability protection to keep professional and personal assets separate; the business becomes its own entity. This means that in the event of unforeseen circumstances, which may include the business going under or getting served with a lawsuit, you will not be held personally responsible.

What types of businesses benefit the most? The flexibility of an LLC grants you the ability to take your business in a wide variety of directions. You can open up your own storefront, expand to a chain, or even incorporate as a freelancer.

What else should I know when incorporating as an LLC? Did you know that as an LLC you can choose your tax entity? Forming an LLC allows you to pick either an S corporation or C corporation for tax purposes. If you qualify as an S corporation, you can avoid paying significant employment taxes by using careful planning tactics. LLCs are also not public structures. In the event that your business takes off and you want to take the company public, you will need to switch to a public legal structure like a C corporation.

Remember that regardless of the entity that you decide to incorporate as, you will still need to apply for additional business documents as per the obligations in your city, county, or state. Business licenses, insurance, and sales and tax permits are just a handful of requirements for many businesses. Check in with your city and state to make sure you don’t forget anything!