1.1 Sole Proprietorship

Overview:

Operating as a sole proprietorship does not involve forming a new or separate entity. Rather, the sole proprietorship is identical to the individual who owns and operates the business. The sole proprietor is subject to unlimite personal liability for all of the business's debts and obligations and all management and control of the sole proprietorship rests with its individual owner. Because there is no distinction between personal and business assets in a sole proprietorship, all of the assets and earnings (present and future) of its owner are available to finance the business. This distinction also precludes the owner from transferring an ownership interest in the business to another person, except through the sale of the assets of the business.

Formation:

The formation of a sole prorietorship is easy. The owner just starts to operate and files an application to do business with the Department of Revenue and the life of a sole proprietorship is co-existent with the life of its owner. Accordingly, the sole proprietorship ceases with its owners death. Because the formation of a proprietorship does not involve the transfer of any assets, there are generally no tax consequences to the organization of the business. Nonetheless the owner should separate business assets from personal assets for record keeping. The owner also needs to make proper arrangements for tax filings for any employees of the proprietorship.

Taxation:

For tax purposes all the activity of the sole proprietorship (sales, expenses, and net profit) is reported on the individual's Form 1040, Schedule C. As a result, the profit generated by a sole proprietorship is subject to the individual owner's particular tax rate and the self-emplyment tax. Because there is no intitial transfer of assets in creating a sole proprietorship, there are generally no tax consequences upon liquidation or termination of the sole proprietorship's business. However, a sole proprietor may have different tax consequences regarding gain or loss if the assets are sold after they have been converted to personal use. Sole proprietors limit risk through proper business procedures and carrying sufficient general liability insurance. They should also limit exposure to liability through legal contracts. Since a sole prorietor may be liable for any judgment in an individual capacity or as a business, asset protection planning is extremely important in this field.