When you are a one-person business, i.e. you are to be the only owner of your business, the question invariably arises: Should I remain a sole proprietorship or form a single-member LLC?
You are a sole proprietorship, as soon as you begin doing business. There is no filing, no certificate, not even an EIN is required (unless you have employees). Startup costs couldn’t be any lower.
A Limited Liability Company is a separate entity and requires certain filings and, if your LLC’s county of formation is in New York City, Manhattan, it will cost you at least $1430 to form, taking into account the costly publication requirement. A limited liability offers LIMITED LIABILITY and you are not in danger of being liable for business debts with your personal assets. But $1430 is a lot of money to come up with and some people might just be fine with a sole proprietorship after having fully understood its limitations and risks.
- The tax situation for a sole proprietorship and LLC is essentially the same.
- Yes, not forming an entity with limited liability subjects you to potentially unlimited liability. However, if you are a professional service provider or consultant and what you are selling is basically your service, you would always be liable for your actions anyway. In other words, if you screw up, people can still sue you personally, even if you have an LLC. This is what liability insurance is for.
- If you are a startup LLC, anybody with a brain will also ask for your personal signature and guaranty when you enter into any kind of bigger contractual obligation, like signing a lease. So the limited liability of an LLC won’t save you from being personally liable.
- You can hire employees as a sole proprietorship.
- Aside from the unlimited liability, you also have to realize that you cannot share ownership in a sole proprietorship or transfer ownership to somebody else. So if you want to partner up and/or take in investment from another person, an LLC would be the better choice. Also, when you pass away, the business ends. With an LLC, your departure from this earth would, in most cases, result in a transfer of the ownership to your heirs.
- You can always form an LLC later when the business has grown, your cash flow has improved, and/or you want to raise money by giving away some ownership of your business to another person.
- Another reason to form an LLC instead of a sole proprietorship is that your main (and only) client may be a company that would prefer that you are an entity, either an LLC or a corporation. This protects the company from having you reclassified as an employee and suffer negative consequences.