Fix Your Sole Proprietorship Before It’s Too Late | USTaxAid

Diane Kennedy's Blog

Fix Your Sole Proprietorship Before It’s Too Late

Written by Diane Kennedy, CPA on June 8, 2010

6-8-2With all the talk in Washington of raising taxes on businesses and corporations, some folks are asking me if it’s worth it to just stay a Sole Proprietorship.

I wish I could wholeheartedly say yes, but the downsides to operating a Sole Proprietorship are real, and they aren’t going away.

Sole Proprietorships are unincorporated businesses, and very easy to operate. They don’t have Articles of Incorporation and they don’t file annual reports. So, they’re definitely cheaper to run. You don’t need to keep separate records, or run all of your business income and expenses through a separate bank account.

But they don’t give you any protection, either. There’s no separation between you and the business. That means if the business has a debt, it’s your debt, too, and the business doesn’t have the money to pay it, a creditor will look to you to
make things right. That kind of liability can cost you your house, car, college fund, and so on.

6-8-3Other things that I don’t like about Sole Proprietorships are your inability to establish credit in the name of the business and the difficulty you’ll have in selling it. Most businesses today need at least some credit, especially in the early days. But you’re out of luck with a Sole Proprietorship – you simply cannot establish credit that’s linked only to the business. The same lack of separation makes valuing and selling a Sole Proprietorship hard, too. It’s unlikely you’ll get the best price for your business in a sale, even if you’ve worked hard and built it into a successful operation.

And let’s not forget the elephant in the room. Did you know that simply operating as a Sole Proprietorship increases your audit risk by a factor of 10? You’re 10 times more like to be audited – those are the IRS’s own statistics. Any time the IRS sharpens their pencils, you’re at the front of the line for a visit.

6-8-1With so many other options out there, that’s a massive downside. On the other hand, operating an incorporated structure, like an LLC making a C or S Corporation tax election, or even a flow-through partnership election can significantly reduce your audit risk. It’ll also save you tax dollars – you may find that the money you save more than offsets any extra operational costs. Why not explore your options? All you’ve got to lose is a bunch of personal liability.

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