How to Create a Sole Proprietorship in 10 Steps, (including links to external resources)

As a sole proprietor, you fully own and control your business. This means you and your business are one and the same in the eyes of the law. A sole proprietorship is not a separate legal entity. It simply refers to a person who owns a business, and this individual is personally responsible for its debts.

A graphic that is used for an article discussing how to create a sole proprietorship. The graphic contains an amoeba-like organism used to convey the different business types.

What is a Sole Proprietorship?

A sole proprietorship is a type of business ownership where the line between the individual and the business is virtually nonexistent. Entrepreneurs make decisions with full accountability for the outcomes. Sole proprietors enjoy the flexibility to shape their business according to their OWN values and objectives. They run their business with minimal barriers and maximum control.

How to Create a Sole Proprietorship in 10 Steps

1. Conduct Market Research

  • Understand your market’s landscape. Identify potential customers, gauge the size of your market, and analyze your competitors. This exploration may shape your approach to your new sole proprietorship.

1a. Market Research Resources

2. Choose a Business Name

  • Select a name reflecting your brand and check to see if it’s already used or trademarked. This may involve a search through local business registers and online databases.
  • Check and register your domain name online.

2a. Business Name Resources

3. Register Your Business Name

  • Registering your business name may be necessary (depending on your state). Local government offices or websites can assist in the registration process (see resources).
  • If your business operates under a different name (from your own), you may need to file for a DBA (Doing Business As).

3a. Registration Resources

  • The U.S. Small Business Administration has an excellent state lookup function, providing URLs to local, state & federal resources, (including business registration and DBA).
  • This process varies by location, so check your local government’s requirements by using the SBA link and state lookup function (linked above).

4. Obtain Licenses & Permits

  • Secure the necessary authorizations to operate your business legally. Your business may require specific licenses and permits from local, state, or federal agencies.
  • Additionally, check zoning laws to ensure your business location complies with regulations.

4a. License & Permit Resources

5. Draft a Business Plan

  • Craft a detailed business plan that outlines your objectives, strategies, financial forecasts, and marketing endeavors.

5a. Planning Resources

6. Acquire an EIN

  • Although optional for sole proprietorships without employees, acquiring an Employee Identification Number (EIN) from the IRS streamlines opening a business bank account and managing taxes. This step, while free of charge, also allows you to scale your business if you need to hire part-time or full-time employees.

6a. EIN Resources

7. Open a Business Bank Account

  • Establish a separate bank account for your business transactions. This separation will help maintain clear records and simplify tax filing, helping ensure that your personal and business finances remain distinct.

7a. Business Banking Resources

8. Setup an Accounting System

  • Implement an accounting system to track expenses, income, and taxes. Accounting systems can range from simple spreadsheet management to sophisticated accounting software. Find accounting an accounting system that works for you, even if it’s pen and paper!

8a. Accounting Resources

9. Understand Tax Obligations

  • Familiarize yourself with the self-employment tax in addition to income tax.  Sole proprietors report their personal and business income taxes using the same form.
  • Use Schedule C (Form 1040) to report how much you earned or lost from running your own business or working for yourself.

9a. Tax Resources

10. Consider Business Insurance

  • Evaluate your business’s risk factors and secure insurance coverage. Insurance can protect against various risks, including liability, property damage, and professional errors. Assess your needs and explore options.

10a. Business Insurance Resources

Pros of a Sole Proprietorship

  • Simplicity: Starting and operating a sole proprietorship is straightforward, with minimal paperwork and low start-up costs.
  • Control: As the sole owner, you have complete control over all business decisions.
  • Tax Benefits: Business income is taxed once on your personal tax return, potentially leading to tax advantages. As a sole proprietor, you report your business’s profits or losses on your personal tax return, not as a separate business entity. This is known as “pass-through” taxation, where business income directly affects your personal taxes.

Cons of a Sole Proprietorship

  • Unlimited Personal Liability: You are personally liable for all business debts and obligations, which can put your personal assets at risk.
  • Funding Challenges: Sole proprietors may find it harder to secure business loans or attract investors.
  • Perceived Lack of Professionalism: Some clients and vendors may perceive sole proprietorships as less professional than corporations or LLCs.

Sole Proprietorships vs. Partnerships & LLCs

CriteriaSole ProprietorshipPartnershipsLimited Liability Company (LLC)
Basic Tax InformationTaxed as personal income. No separate business tax returns. Self-employment taxes apply.Partners report their share of profits and losses on their personal tax returns. Self-employment taxes apply.Can choose to be taxed as a sole proprietor, partnership, or corporation. Self-employment taxes may apply depending on the tax structure chosen.
LiabilityUnlimited personal liability. The owner is personally responsible for all business debts.Unlimited personal liability for all partners. Each partner can be held responsible for the actions of the other partners.Limited personal liability. Owners (members) are typically not personally responsible for business debts or liabilities.
Estimated Cost to Get StartedLow. Costs primarily include permits, licenses, and a DBA registration if using a business name different from the owner’s. Typically under $300.Low to moderate. Similar to sole proprietorships but includes partnership agreement drafting. Costs vary but generally under $500.Moderate to high. Includes state filing fees, ongoing compliance costs, and possibly legal fees. Costs can range from $500 to over $1,000, depending on the state.

Now, It’s Your Turn

Starting a sole proprietorship is a simple process that offers entrepreneurs complete control. This article discussed ten critical steps, including market research, obtaining permits, and financial management. Although this article emphasizes the simplicity and flexibility of sole proprietorships, it also highlights the importance of fulfilling legal and tax responsibilities. Now, it’s your turn!

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