Each year, millions of new entrepreneurs step up to try their hands at business. In fact, as many as 4.41 million business applications were filed in 2020 alone. And this number is likely to only increase in the coming years.
So, while you might have been thinking of starting a business for some time now, you will need to know the process of formation thoroughly well. A major part of the business formation process is that of deciding on your business structure.
Several business structures are available for entrepreneurs such as Sole Proprietorships, Limited Liability Companies (LLCs), Partnerships, and Corporations. Among these, Sole Proprietorships and LLCs are fairly common.
In fact, you might get confused when you’re considering which one to choose. That’s why we’ve created this guide to help you understand both these business structures well. You can then choose the right one.
Forming the Business
The first thing that differentiates Sole Proprietorships from LLCs is the process of forming the business. While Sole Proprietorships require minimal effort to form and run, LLCs are slightly more complex.
You can form and run a Sole Proprietorship firm in your name. Alternatively, you can get a fictitious business name (FBN) by applying for a DBA (Doing Business As).
For LLCs, you’ll have to first file the Articles of Organization with the Secretary of State. You’ll also have to draft an Operating Agreement that explains the roles and responsibilities of all of the owners. Finally, you need to pay a state filing fee to get started.
When it comes to taxation, there’s one major similarity between LLCs and Sole Proprietorships. Both these business structures give you the advantage of pass-through taxation. This means that the incomes and expenses of the company are passed onto the individuals running it. They would have to be reported in your personal tax returns.
However, when you’re running a multi-member LLC, you may have to pay self-employment tax as well. To avoid this, you can get taxed as an S-Corporation. This, however, would mean that you’d have to pay corporate taxes.
Sole Proprietorships can be owned by one individual only. There’s no other provision for it. But that’s not the case with LLCs. They can be operated by both individuals and multiple owners. These owners also don’t need to be people. They can be other LLCs and even foreign entities.
But there are some restrictions you must know. Banks and insurance companies aren’t allowed to become members of an LLC.
Now that you know the major differences between an LLC and a Sole Proprietorship, you’re better prepared to choose the right structure for your business.
To learn more about them, you can take a look at this infographic designed by GovDocFiling.
Brett Shapiro is a co-owner of GovDocFiling. He had an entrepreneurial spirit since he was young. He started GovDocFiling, a simple resource center that takes care of the mundane, yet critical, formation documentation for any new business entity.