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Sole Proprietorship Advantages and Disadvantages

Many companies start as sole proprietorships, and some stick with that business structure until they close. Sole proprietorships are businesses where a single person owns and runs a company with no separate legal existence.

Sole proprietorships have many advantages over other types of business structures. They give their owners complete control over the entire business, are quick and easy to set up, require little start-up cash, and accounting is simple. However, sole proprietorships have many disadvantages as well.

Every new business owner planning on operating as a sole proprietorship should be aware of the potential legal costs and issues.

Personal Assets Are Business Assets

The sole proprietorship is business in its simplest form and has few formal business requirements. The most significant disadvantage of being a sole proprietor is that there is no separation between business assets and personal assets. This means that if anyone sues the business for any reason, the business owner's cash, car, or home is on the line.

This is different from both the LLC (limited liability company) and corporate business structures, where there are strict separations between business assets and the owners' personal assets. When someone sues an LLC or corporation, the most that person can get are its business assets. This protects the business owners.

Most sole proprietors buy insurance in case they are sued. While insurance can help by providing money to settle lawsuits, it will not always offer complete protection. Many policies only cover certain kinds of cases, such as personal injury suits if someone slips and falls on your property. Any other claim, like a collection action from one of your vendors, is not covered by insurance. Additionally, the money the policy provides may not be enough to cover your damages, which leaves your opponents free to go after your personal assets.

The Business Dies With Its Owner

Courts do not see any difference between a sole proprietorship and its owner. So when the owner passes away, the business ends unless the owner makes a prudent estate plan which allows the company to continue.

In a corporation, the business is said to have a "perpetual existence," which means that it will continue until its owners, directors, and shareholders decide to end it.

Sole Proprietorships Have Fewer Ways to Raise Money

Corporations have many ways to raise money to invest in the business. One of the easiest ways for a corporation to raise money is to sell more shares. Selling shares gives people a piece of the company in exchange for the money they invest. However, a sole proprietorship has no shareholders and cannot sell shares without changing its business structure.

Sole proprietorships may borrow money just like other business structures. However, because there is no separation between business and personal assets, many sole proprietors need to use their personal assets as collateral for the business loan. A sole proprietor can even use their home as collateral. If the business fails and the owner does not have enough money to pay the loan, the lender can take away the owner's personal assets to get that money back.

See FindLaw's small business section to help you decide which legal structure is best for you, as well as a helpful checklist for setting up a sole proprietorship.

Get Legal Help Setting Up Your Sole Proprietorship

Although sole proprietorships are by far the easiest type of business entity to set up, they also subject the owners to personal liability for business debts. If you have any questions about the legal implications of a sole proprietorship, contact a local small business attorney today.

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