The Difference Between A Sole Proprietorship And LLC

Knowing the differences between a Sole Proprietorship and an LLC will lead to a more informed decision about which one to use as a business entity. A Sole Proprietorship is a low-risk start-up with no personal liability protection and an LLC offers legal separation between the owner and the business. Below we will discuss what a Sole Proprietorship and an LLC is, as well as key differences between the two.

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What is a Sole Proprietorship?

A sole proprietorship consists of one person, the business owner, and it’s an informal business structure; it’s not a legally formed corporation. Additionally, a sole proprietorship is not legally set apart from the owner, which means that the owner is responsible for all the profits and losses.

A sole proprietorship is a good option for someone starting out a business venture as a hobby that is low-risk with a small customer base that usually consists of friends, family, or surrounding community members like associates or colleagues. It can range in professions and skills, for example, independent contractors, photographers, artists, writers, freelancers, or tutors.

What is an LLC?

An LLC (Limited Liability Company) consists of ‘members’ that can either be one person (single-member LLC) or more than one person (multi-member LLC). It is a formal business structure and allows the owner more options to safeguard their business and apply for business loans.

Setting up an LLC is a simple process and the price will vary in each state. There are also different types of LLCs, namely, Domestic LLC, Foreign LLC, Professional LLC, and Series LLC. It’s usually recommended to form a Domestic LLC in the state that the business will be in. An LLC is a good option for more established businesses with more customers and business owners that need asset protection.

Sole Proprietorship vs. LLC

There are notable differences between a Sole Proprietorship and an LLC, these are discussed in more detail below.

Liability Insurance

A sole proprietorship does not have protection for personal assets (for example, bank account, vehicle or house). The owner is responsible for all profits and losses and is more susceptible to risk in the event of unpaid debt or if the business is sued.

An LLC is protected by liability insurance that legally sets apart personal assets from business assets, this will safeguard all personal assets in the event of lawsuits.

Brand Name

Sole propiertorships will conduct business under the owner’s surname, this includes signing any legal documents, accepting and making payments, opening and using bank accounts, as well as using the owner’s name to market the business. This may appear less professional to customers and banks, it will also limit privacy.

An LLC will operate under a business name with the abbreviation ‘LLC’ included in the name, this will appear more professional and trustworthy to banks and customers. This will also improve chances of receiving business loans and how the business is marketed.

Taxes

Sole proprietors have little to no tax benefits, owner’s are required to pay taxes on their profits, as well as pay FICA (Federal Insurance Contributions Act), which is Social Security and Medicare taxes.

LLCs have more tax benefits, including three different options to choose from according to their business needs. An S Corporation is a type of tax designation, and another alternative to choose from with various benefits, including saving over 15% of the distribution part of the income – this applies if a business meets the S Corp tax requirements.

Growth

For sole proprietors there are limited growth opportunities and as profits grow, risk grows, without liability insurance to safeguard the business. An LLC will have more legal backing from liability insurance, allowing the business to grow financially and absorb potential risks.