Industry
Part of Sole proprietorships: what the experienced already know
Sole proprietorships questions: which have real answers
Sole proprietorships questions sorted by the kind of answer they have: definite ones from an agency, conditional ones for an adviser, and ones with no answer.
The most common question about sole proprietorships is how to start one, and it has no answer, because there is nothing to start. If you are working for yourself and have not formed anything, you are already operating this way. The question people mean is usually a different one, and identifying which is most of the value of asking.
What follows sorts the questions by what kind of answer exists: a definite one, a conditional one, or none.
What to take away
- There is no formation, no certificate and no application. The structure is the default, and nothing confirms it.
- Licenses, permits and name filings do have definite answers, and they come from state, county and city offices separately.
- Tax questions have conditions set by the IRS, and the answers depend on your numbers, which is an accountant's territory.
- Whether you should form something instead has no general answer, and anyone giving you one without your facts is guessing.
- Two people cannot run one together, whatever the paperwork says.
Questions with a definite answer
How do I start a sole proprietorship?
Sole Proprietor Registration Triggers
Need to register with state?
trade name, tax, or license filing
no state registration required
You do not. Working for yourself without forming anything is what it means.
Do I need to register with the state?
Not to be a sole proprietor. Possibly for a trade name, possibly for state taxes, possibly for a license. A trade name is normally filed with the county clerk or with the secretary of state, a state tax account comes from the state revenue department, and a license comes from whichever state, county or city agency licenses your trade. Three different offices, three different answers, and none of them tells the others.
Do I need a separate bank account?
Not as a matter of law in most cases. Yes as a matter of running a business you can understand, prepare returns for, and show to a lender. The SBA's description of opening a business account covers what banks generally ask for.
Can I hire people?
Generally yes, and it brings registrations, withholding, reporting and insurance obligations that arrive together: a payroll account with the IRS and with the state, workers' compensation cover, and the reports that go with each. It is also the event most likely to change the structure answer, so it deserves both conversations at once.
Can I use a business name?
Yes, with a name filing where one is required, and that is not the same as owning the name. What the filing does and does not do is in trade names explained.
Questions with conditions attached
Do I need a federal identifier?
It depends on facts, and the criteria that decide it are the IRS's, listed in the Form SS-4 instructions: you need one if you have employees, if you withhold taxes on payments to a nonresident alien, if you file employment, excise, alcohol, tobacco or firearms tax returns, or if the business operates as a corporation or a partnership. Many sole proprietors with no employees get one anyway rather than hand out a Social Security number. What the number is and is not is set out in the identifier explained.
How am I taxed?
Through your own return. The business's income and expenses go on Schedule C, the self-employment tax is worked out on Schedule SE, and both are filed with your Form 1040. Tax during the year is paid in quarterly estimated payments made with Form 1040-ES. The IRS's self-employed section is where the current rates and thresholds live, and how they apply to your figures is a question for whoever prepares your return.
Am I covered if something goes wrong?
Only to the extent that you bought cover for that specific thing. There is no separation between you and the business, so the policy and the contract are the protection. Read the exclusions when the work changes, not when the claim is made.
Questions with no general answer
Should I form an LLC instead?
It depends on your exposures, your owners, your money and what you will maintain. The comparison is laid out in choosing a form, and the decision belongs to a lawyer and an accountant looking at your facts. Anyone answering it from a description of your trade alone is guessing.
Am I too big to be a sole proprietor?
There is no size at which this stops working. There are events at which it stops being comfortable, and they are about exposure: somebody else working under your name, an obligation you could not absorb, holding other people's property, or a second owner appearing.
What do most people in my trade do?
Unknowable, and unhelpful even if it were known. Two businesses that look the same from outside can differ on exactly the facts that decide this.
A worked example of sorting one question
A landscaper asks whether she needs an EIN. The question splits three ways, and each part goes to a different place.
Sorting an EIN Question
- Landscaper asks: Do I need an EIN?
- IRS requirement -> definite answer from Form SS-4
- Get one anyway? -> conditional on W-9 privacy
- Tax impact -> accountant with actual figures
- Does the IRS require one? That is a definite answer, published in the Form SS-4 instructions, and it turns on whether she has employees or files certain returns.
- Should she get one anyway? That is conditional. It depends on whether she wants to hand her Social Security number to every client who asks for a W-9.
- What will it change about her tax? That one goes to her accountant with her actual figures.
The same split works on almost any question a sole proprietor asks. Sort it first, then find the office that owns the answer.
The question people should ask and do not
What happens to this business if I cannot work for three months? A sole proprietorship has no other officer, no other signatory and no continuity plan unless somebody wrote one.
An hour and a written note of who could invoice, who could access what, and who would tell your clients covers it. Forming an entity solves nothing, and changes to plan for collects the events that force the question.
Common questions
The same three-way sorting applies to the questions that come up once the business is running.
If nothing forms it, when does it start?
For practical purposes, when you start working for yourself with the intention of making money. The exact point matters mostly for tax, and that is a question for your accountant.
Does it end automatically if I stop?
The structure does, since there is nothing to dissolve. The obligations attached to it do not: registrations, licenses and tax filings each have their own ending, and each has to be closed separately.
Can two people run one together?
No. Two people running a business together are, by default, a general partnership with different default rules, whether or not anything was filed, and state partnership law makes each owner responsible for the business's obligations and for the other's acts. That case is covered in two or more owners.
Is a sole proprietorship taken less seriously by clients?
Some procurement processes ask for an entity, and many accept a sole proprietor who can show a certificate of insurance for general liability. Read what the form actually requires before assuming it needs a formation.
