The big day is here. You’ve finally decided to launch your own business. While you may be the only person in your org chart right now, you’re not alone in terms of starting your own operation.
In March 2020, there were more that 800,000 businesses that were less than one-year old. That was up almost more than 30,000 from March 2019.
One of the first things you’ll need to do regarding your new venture is deciding which form of business you should go for. For many people, that’s a sole proprietorship. In fact, the Small Business Administration's (SBA) Office of Advocacy reports that sole proprietors account for 73.2% of U.S. small businesses.
While you’re in good company among sole proprietors, you may want to ask if the benefits of a sole proprietorship will outweigh the risks. Let’s take a look.
Business success often comes from doing things better than other people. And doing things better often means doing things differently, like making it possible for your customers to order a latte from an app rather than waiting in line at the coffee shop.
To be different, you’ll need courage and freedom. The courage will come from you; the freedom will come from being a sole proprietor. As a sole proprietor you don’t have to sell your idea to a board of directors or prove it to your stockholders.
To get the most from all the freedom a sole proprietorship can offer, it’s important to protect your business from the risks that can come with being on your own.
To do that, many experts and authorities, such as the Small Business Administration recommend getting business insurance. Some states even require you to have business insurance, especially if you have a contractor's license. We’ll dive into that a bit deeper in a bit.
At Simply Business, we work with many sole proprietors to protect a wide variety of businesses and trades. Depending on the specific trade and other variables, we often can find general liability policies starting as low as $19.58/month.*
Starting as a sole proprietor can be as simple as just starting to conduct business . That’s one of the big advantages — you generally don’t have to register or formally declare that you’re in business. Plus, in many cases you can start in your home, garage, or kitchen.
Most sole proprietors use their name for their business (e.g., John Smith, private investigator). However, if you have a great name for your business and want to use it (e.g., ICU Investigations), you may be required to register for a “fictitious business name,” or DBA (doing business as) with your state.
Something else to consider is getting an EIN (employer identification number) from the IRS. This will make tax reporting easier and is helpful if you ever need to bring on any employees or independent contractors.
Depending on what you do and where you do it as far as location, you also may need certain licenses, permits, or other approvals and certifications. Still, a sole proprietorship is typically a quick, low-commitment, and relatively paperwork-free way of getting your business going.
While there’s no way to avoid paying taxes, a sole proprietorship can make the process easier and less time-consuming than some other business entities.
Generally, only the profit from your business is taxable, and it can be included as part of your personal tax return, and taxed at your personal tax rate. You typically don’t need to file a separate tax return for your business if you have a sole proprietorship.
Keep in mind that you’ll likely still have to pay the full self-employment taxes (Medicare and Social Security), which will be done when you file your income tax return.
One more thing, as a sole proprietor, you will likely be able to deduct the cost of health insurance for you, your spouse, and any dependents. However, you should consult an accountant or tax professional regarding what’s necessary for your particular business and financial situation.
While in some states there may be a business license fee or a DBA, there are usually no fees to set up a sole proprietorship. That also means you likely don’t have to spend time completing forms and filing them with governmental agencies.
As a sole proprietor, you’ll also avoid the periodic registration and reporting fees that come with LLCs (limited liability companies) and other business types.
From a legal point, an individual and a sole proprietor are typically one and the same, so you can use your personal bank account for business payments and deposits. That can save you the time and expense of setting up and maintaining business bank accounts.
Still, it’s a good idea to think about how often you’ll be doing business transactions before you choose to use your personal bank accounts. For instance, if you run a food truck and record transactions on a daily basis, you may be creating more work for you or your accountant when it comes to tax reporting if you don’t have a business bank account.
As with many considerations related to taxes and finance, the right choice often depends on specific aspects of your business, including state and local tax requirements. It’s a good idea to consult an accountant, tax, or financial professional about your specific situation and business.
As a sole proprietor, you don't have the same disclosure and reporting requirements as other types of businesses. That can mean more privacy and autonomy, both of which can be valuable if you have proprietary technology or intellectual property that could give you an advantage over your competitors.
Along with many benefits, there are also some disadvantages to a sole proprietorship. One of the biggest is a lack of liability protection.
A sole proprietor is personally responsible for all of the business’s debts and claims against it. It’s not just your dream and vision that are on the line — it also could be potentially everything you own.
That means if you’re sued or your business owes money, both your business assets and your personal assets could be made available to settle claims or debts. Not only could you lose the food truck, your inventory of chicken and beef, and all that sriracha sauce, you also could lose your home, savings, jewelry, and other personal assets.
Risk from liability flows the other way as well. If you can’t pay your personal credit card company, student loan holder, or mortgage lender, they can attempt to recover their money through liquidating your business assets, forcing you out of business.
You’ve got the dream, the vision, and the commitment to start and run a business. Good, those are intangible assets that almost every sole proprietor needs. Along with the intangibles, you’ll likely need some hard assets to get your business up and running.
That takes funding. And as a sole proprietor, finding the money you need to get started can be challenging.
Lenders view you and your business as the same entity. So your personal credit rating plays a significant role in getting a business loan from a bank or other financial institution.
Some may require you to provide collateral for the loan. If you don’t have business inventory or equipment, that may mean putting up your house or other high-value asset.
A business credit card can be a useful tool in your funding toolkit. Getting one can be as easy or difficult as getting a personal credit card. Once again, a lot depends on your personal credit rating.
While professional investors generally stay away from sole proprietorships resulting from the lack of personal asset protection, you may find your friends or family willing to invest in your business.
This is a popular funding source for many sole proprietors. However, there are a number of factors to consider if you go this route, and it’s helpful to do some homework before you start asking for or accepting money.
We mentioned above that there are tax benefits in a sole proprietorship. Depending on your business and personal situation, there also can be a downside when it comes to taxes.
Reporting the net income from your sole proprietorship on your personal tax return can simplify tax filing, but it’s a good idea to consider a few other factors.
For instance, if you're running your sole proprietorship along with holding down a day job, or if your spouse is working as well, all of that income gets lumped together for tax purposes.
Personal tax rates range from 10% to 33%, depending on how much money you make in a given year. The more you make, the higher your tax rate. That could mean the income from your business pushes you into a higher tax bracket, and all your income is taxed at a higher rate.
This is similar to the FICA tax that is paid by corporate employers and employees. In that instance, the employee and employer typically each pay half.
As a sole proprietor, you will pay the full amount, which is currently 15.3%. It includes 12.4% for Social Security (old-age, survivors, and disability insurance) and 2.9% for Medicare Part A (hospital insurance).
Along with the potential for a higher tax bill, a sole proprietorship typically has to file and pay taxes quarterly. If you expect to owe at least $1,000 in taxes for the year, The IRS may require you to pay quarterly Estimated Tax payments.
As with many considerations related to taxes and finance, much depends on specific aspects of your business, including state and local tax requirements. As we’ve mentioned, it’s a good idea to consult an accountant or a tax or financial professional to get the best insight into your tax situation.
If the benefits of being a sole proprietor strike a chord with you, but you’re trying to balance that with the potential downside, sole proprietorship insurance can tip the scales in your favor.
General liability (GL) insurance typically covers damages resulting from third-party accidents, physical injury, and property damage. It’s a popular type of coverage, especially if you run a business where you’re working on or at other people’s property.
Let’s say you’re an HVAC contractor. As you’re carrying an AC unit into a customer’s house, you don’t notice that the storm door is closed and you walk right into it, shattering the glass door. General liability insurance could cover the damages to the broken door.
On the other hand, professional liability insurance (PL) typically covers you if you make an honest mistake or inadvertently overlook an important detail as part of your work.
For example, say you’re a financial planner and your client asks you to help plan for their son’s college tuition. You do all the work and give them your advice.
Later, the client alleges you were negligent while delivering your services with false information or misguidance. The client could file a claim for alleged negligence, but professional liability could help cover the legal costs to that claim (up to your policy limits).
If you’re like most entrepreneurs, you want to start your own business because you have an unshakable belief in how your work can be done better and more efficiently.
We work with thousands of small business owners in various professions, so we see that quite a bit. That’s why we’re glad to be here to protect big dreams with business insurance and support them with insight and information as well.
* Monthly payment calculations (i) do not include initial premium down payment and (ii) may vary by state, insurance provider, and nature of your business. Averages based on January - December 2020 data of 10% of our total policies sold.
As a 9-year-old at summer camp, I hated it — especially after being pulled screaming from the pool during the swimming competition. While this left me without an aquatic achievement patch, it also inspired the letter to my parents that got me an early release from Camp Willard. That showed me the power of writing. I’ve done my best to use it only for good ever since, such as writing helpful articles for small business owners.
Ed writes on a number of topics such as liability insurance, small business funding, and employee management.
This content is for general, informational purposes only and is not intended to provide legal, tax, accounting, or financial advice. Please obtain expert advice from industry specific professionals who may better understand your business’s needs. Read our full disclaimer
*Harborway Insurance policies are underwritten by Spinnaker Insurance Company and reinsured by Munich Re, an A+ (Superior) rated insurance carrier by AM Best. Harborway Insurance is a brand name of Harborway Insurance Agency, LLC, a licensed insurance producer in all 50 states and the District of Columbia. California license #6004217.