When it comes to establishing a business entity, it is important to understand the tax implications each entity assumes. Not only will this dictate how business owners should file their taxes at the end of the year, but it will also help determine the best ways to set aside taxes during the year.
A sole proprietorship is typically the easiest business entity to set up. However, this business type carries the most personal liability and requires that business owners personally set aside taxes that they will owe.
What is a sole proprietor?
The Internal Revenue Service defines a sole proprietor as someone who owns an unincorporated business alone. The most typical example is a person who is making money with a hobby or side project and does not involve other people in their business structure.
Sole proprietors are responsible for paying taxes on the income that they receive. Instead of having taxes deducted from a paycheck, sole proprietors generally set aside a portion of their earnings in a separate account for tax time.
What is the liability for sole proprietors?
Sole proprietors carry the greatest personal liability because they themselves are the business entity. According to FindLaw, this means that any lawsuits or judgments against the business can include the owner’s personal property as a remedy. There is no liability protection under a sole proprietorship.
Many people choose to set up a sole-member limited liability company instead of a sole proprietorship because of liability issues. A sole-member LLC still includes just the business owner, but the liability shifts from the individual to the business instead.
There are several benefits to creating a business for oneself. It is important for people to research the benefits of each business type before committing to one.