A sole proprietorship, also known as the sole trader or simply a proprietorship, is a type of enterprise that is owned and run by one natural person and in which there is no legal distinction between the owner and the business entity. The owner is in direct control of all elements and is legally accountable for the finances of such business and this may include debts, loans, loss, etc.
The sole trader receives all profits (subject to taxation specific to the business) and has unlimited responsibility for all losses and debts. Every asset of the business is owned by the proprietor and all debts of the business are the proprietor's. It is a "sole" proprietorship in contrast with partnerships (which have at least two owners).
A sole proprietor may use a trade name or business name other than his, her, or its legal name. They may have to legally trademark their business name if it differs from their own legal name, the process varying depending upon country of residence.
Advantages and disadvantages of sole proprietorship
Registration of a business name for a sole proprietor is generally uncomplicated, unless it involves the selection of a name that is fictitious, or “assumed.” The business owner is required to register with the appropriate local authorities, who will determine that the name submitted is not duplicated by another business entity. Furthermore, the business owner must complete a form submitted to the governing authority to acquire title as a “DBA” or "doing business as”. The authority in some states is the Secretary of State.
The license for a sole proprietary business entitles the owner to hire employees and enlist the services of independent consultants. Although an employee or consultant may be requested by the owner to complete a specific project or participate in the company's decision-making process, their contribution to the project or decision is considered a recommendation under the law. Under the legal doctrineRespondeat superior (Latin: "let the master answer"), the legal liability for any business decision arising from such a contribution remains upon the owner and cannot be renounced or apportioned.
This is transposed by the unlimited liability attached to a sole proprietary business. The owner carries the financial responsibility for all debts and/or losses suffered by the business, to the extent of using personal or other assets, to discharge any outstanding liabilities. The owner is exclusively liable for all business activities conducted by the sole proprietorship and accordingly, entitled to full control and all earnings associated with it. The general aspect according to general business law is that this type of business ownership does not embody a “legal entity” Furthermore, any attempted and unreliable distinctions of the business do not change the classification under this title.
Foundation and development
The setting-up process of a sole proprietorship to comply with local laws and regulations, is obtainable from the Small Business Development Center (SBDC), using their locator facility. A sole proprietor must be prepared to devote their time, utilizing business methods towards establishing a sound and appropriate foundation. Doing so may contribute to increased turnover, profits, minimize taxes, and avoid other potential adversities. 
Sole owners are engaged in many varieties of industry and commerce and a comprehensive list of the primary categories, is found in the North American Industry Classification System (NAICS). The selection of a business type by a new sole proprietor is in many instances, motivated by appropriate business experience in a particular field, especially those pertaining to enterprises involving the marketing and selling of defined products and services.
A crucial component of a sole proprietorship within a business plan is the provision of an inherent guideline, for actions that require implementing for a business to achieve growth. The business name and products are critical aspects in the founding of a sole proprietorship and once selected, should be protected. In the event of a determined brand name being legalized, information regarding trademark protection is available from the U.S. Patent and Trademark Office.
For the sole proprietor there are a variety of options in obtaining financial support for their business, including loan facilities available from the U.S. Small Business Administration. The loans are not originated by the SBA, but the administration does guarantee loans made by various independent lending institutions. The primary loan facility for small businesses offered by this agency is the 7(a) loan program, designed for general applications. Sole proprietors are able to finance legitimate operating expenses; for example, working capital, furniture, leasehold improvements and building renovations.
Many and varied private organizations and individuals seek opportunities to invest and fund a business that may not qualify for traditional financing from institutions, such as banks. For the sole proprietor, seeking to take advantage of this facility, there are various factors that must be understood and adhered to regarding the loan application.
The Small Business Administration (SBA) advises there are traditionally two forms of financing: debt and equity. For any small business owner seeking funding, they must consider the debt-to-equity ratio of their enterprise. This means the inter-action between the sum of dollars borrowed and the financial dollars invested in the business. The mathematics are simple; greater the finance invested by sole proprietors in their business; easier the obtaining of finance! The SBA statistics show that the majority of small enterprises favor the use of limited equity financing; for example, friends and relatives.
According to the SBA, there are various private organizations prepared to fund sole proprietor business operations that do not qualify for traditional financing from banks. These private investors can provide loans, credit lines, leasing facilities for equipment, or other forms of capital, to sole proprietorship that have exhausted alternative financial resources. It is also possible for these owners to obtain financing by way of business partners or others, with cash to invest. Financial partners are frequently “silent” and although they do not participate in any business related decisions, they generally receive a percentage of the profits, generated by the business.
To assist sole proprietors, there are business grants available from the Federal Government or private organizations, providing certain criteria are met. To qualify for Federal grants, small businesses must comply with determined business size and income standards. For consideration regarding various grant opportunities, sole proprietors may apply for a grant in their capacity as an individual. Local governments and state economic development agencies, frequently make grants available, for businesses that stimulate their local economies.
For any sole proprietor applying for a loan, before starting the loan procedure, it is essential their personal and business credit history is in order and up-to-date. A personal credit report should be obtained from a credit bureau; for example, Trans-Union, Equifax or Experian. This action should be initiated by a business owner well before starting the borrowing process.
The Small Business Administration specifies that all credit reports received from any source should be carefully reviewed to ensure that all relevant personal information is correct. Other content in the report should also be examined particularly that related to the past credit obtained, from sources such as, credit cards, mortgages, student loans, as well as details pertaining to how the credit was repaid.
Rules for sole proprietorships in different countries
Registration of Sole Proprietorships
In Malaysia, there are three different laws governing the registration and administration of sole proprietors:-
- West Malaysia & the Federal Territory of Labuan: Registration of Business Act 1956 (Act 197);
- Sarawak: Businesses, Professions and Trade Licensing Ordinance [Sarawak Chapter 33] & Business Names Ordinance for the State of Sarawak [Sarawak Chapter 64]; and
- Sabah: Trades Licensing Ordinance for the State of Sabah [Sabah Chapter 144].
In West Malaysia, the registration of sole proprietors come under the purview of the Companies Commission of Malaysia (Suruhanjaya Syarikat Malaysia, or abbreviated as SSM). In Sabah and Sarawak (with the exception of Kuching), the registration of businesses are done at the local authorities (e.g. municipal councils or district offices) while in Kuching, sole proprietors are registered with the Kuching Office of the Malaysian Inland Revenue Board.
Sole proprietors, which includes the self-employed, must register with the relevant authority within thirty (30) days from the commencement of their business. Sole proprietors may register their business using one of two names: (1) their legal name following the registrant's identity card or (2) a trade name. Registration of a business lasts either one or two years, and must be renewed thirty (30) days before its expiry.
In the event of termination of business, the proprietor has thirty (30) days from the termination date to file the notice with the relevant authority. If the termination is caused by the death of the proprietor, the administrators of the estate has four (4) months from the death date to file a notice of termination.
Goods and Services Tax (GST)
Sole proprietors must register with the Royal Malaysian Customs Department to charge and collect goods and services tax (GST) once their taxable turnover within a 12 month-period exceeds RM500,000.
Sole Proprietors as Employers
Similar to other Common Law jurisdiction, proprietors may enter into contracts of employment and/or apprenticeship with their employees. Sole proprietors, as employers, are responsible to:-
- Make contribution to their employees' Employees Provident Fund; and
- Pay contribution to their employees' Social Security.
In 2016, the SSM took legal action against 478 online businesses who fail to register their businesses whether as sole proprietors, partnerships, or private limited companies. As at May 12th, 2017, a total of 50,882 online businesses have registered with the SSM since 2015.
A sole trader is the simplest type of business structure defined in UK law. It refers to an individual who owns their own business and retains all the profits from it. When starting up, sole traders must complete a straightforward registration with HM Revenue and Customs as self-employed for tax and National Insurance purposes. They are responsible for maintaining the businesses records and submitting an annual Tax return for all income from self-employment and other work.
In Britain, anyone who begins work for themselves is considered by the Government to be a self-employed sole trader, regardless of whether or not they have advised HM Revenue and Customs. A sole trader can keep all the profits of their business after tax has been paid. They must lodge a self-assessment tax return each year, and pay Income Tax as well as National Insurance. If revenue is expected to be more than £83,000 a year, they must also register for the Value Added Tax. A sole trader can employ staff, but is personally responsible for any losses the business makes.
Becoming a sole trader is relatively simple compared to other business structures. It can rapidly enable a business to begin trading; the requirements for record keeping are far more straightforward than other business structures. Sole traders make all operational decisions and are solely responsible for raising business finance. They can invest their own capital into the business, or may be able to access business loans and/or overdrafts. Unlike limited companies or partnerships, it is not necessary to share decision making or the profits.
The simplicity of this structure also has its limitations. Unlike forming a limited company, it lacks the clear cut definition between personal and business income from the perspective of the tax authorities. The business owner is personally liable for income tax and National Insurance contributions due for the business profits in each given tax year. They are also personally liable for any debts the business incurs. Business analysts may advise sole traders to form a limited company in order to access greater levels of financing, for example for expansion plans. This can limit their personal liability; business lenders may be more inclined to co-operate with a limited company. It can also be the case that within certain industries it is easier to secure work if presenting potential business partners with a limited company structure.
In the United States there are no formalities that must be followed to start a sole proprietorship or commence business as a sole proprietor. However, depending upon the business activity of the sole proprietorship, sole proprietors may require licenses and permits in order to conduct business.
According to the Small Business Administration (SBA) a sole proprietor and their business are considered as one and the same; therefore, the business is not subjected to separate taxation and regarded as the direct income of the owner. Income, losses and expenses may be listed on a Schedule C, which is then transferred to the personal tax return of the owner. It is the responsibility of the owner to ensure all due income taxes and self-employment contributions are paid.
A permitted exception to the sole proprietor (single owner) stipulation is made by the Internal Revenue Service (IRS) permitting the spouse of a sole proprietor to work for the business. They are not classified as partners in the enterprise, or an independent contractor, enabling the business to retain its sole proprietorship status and not be required to submit a partnership income tax return.
An exact translation of "sole proprietorship" is unusual, because the focus of the concept can change. An example is the Brazilian concept of "sole business" that was split into two main kinds of formal freelancer:
- sole professional: with higher level academic certificate and regulations for formal control of autonomous exercise (ex. sole doctor's office).
- sole entrepreneur: typical "little entrepreneurs", as sole craftsman, autonomous taxi driver, and many others, that can be formal. An informal freelancer, through a simple process, can be formalized as sole microentrepreneur
German and Austrian tax law also differentiates between sole professionals and other sole proprietors
Related Terms:Partnership; Incorporation; Organizational Structure
The sole proprietorship is both the simplest and most common type of business operating in the United States today. Most businesses that are owned and operated by one person take this form; in fact, small business owners who have sole ownership of their enterprises are automatically categorized under this business type if they do not take steps to legally establish themselves as another type of business. The essential feature of a sole proprietorship is that the law makes no distinction between the person, the sole proprietor, and the business. Virtually all of the legal and tax consequences associated with sole proprietorships flow from this basic fact.
ADVANTAGES OF SOLE PROPRIETORSHIP
Many aspects of sole proprietorship are attractive to entrepreneurs. Primary reasons why small business owners choose to operate in this fashion include:
- Sole proprietors enjoy a great deal of independence and autonomy. The sole proprietor makes all the decisions. As a sole proprietor, you alone can decide what to sell and how to sell it, when to expand and when to pull back, when to look for financing, when to buy new equipment, when and how long to work, and when to take the day off. In some instances, sole proprietorships can benefit enormously as a result of this streamlined management structure. An entrepreneur who keeps abreast of business trends, community events, and other factors that can impact on a company's fortunes may, in some cases, be able to adjust to changing business realities far more quickly than a partnership or corporation, where multiple owners and/or managers need to reach agreement on appropriate responses to changes in their business environment.
- Figuring taxes is fairly straightforward. Unlike other business types, sole proprietorships do not have to file separate income tax returns. In addition, FICA (Federal Insurance Contributions Act) taxes for such businesses are less than they are for partnerships or other legal operating forms.
- Accounting is a relatively simple affair, although small business experts encourage the owners of even the most modest business ventures to establish separate bank accounts and record keeping practices for their enterprise.
- Business operations, too, are generally simpler in a sole proprietorship. Other forms of business often have to contend with more cumbersome or time-consuming regulatory requirements in conducting or reporting on their operations.
- Start-up costs are often modest. This is due in part to the fact that entrepreneurs who intend to establish sole proprietorships do not need to secure the services of an attorney to prepare documents required by state or federal agencies, since none are needed.
- Business losses can be used to offset other income on personal tax returns. Conversely, business profits do not have to be shared with any other owners.
- Sole proprietors are not forbidden from securing and building a work force. Indeed, many businesses that qualify as sole proprietorships (delicatessens, landscaping firms, canoe liveries, flower shops, etc.) have employees.
DISADVANTAGES OF SOLE PROPRIETORSHIP
While business owners who choose sole proprietorship understandably enjoy their autonomy and their freedom from the paperwork that can be considerable in other, more complicated, business types, they still need to consider the following drawbacks in the areas of liability and business financing.
"In a sole proprietorship," warned Jocelyn West Brittin in Selecting the Legal Structure for Your Business, "the business and the owner are one and the same. There is no separate legal entity and thus no separate legal 'person.' This means that as a sole proprietor you will have unlimited personal responsibility for your business's liabilities. For example, if your business cannot pay for its supplies, the suppliers can sue you individually. The business creditors can go against both the business's assets, including your bank account, car or house'¦. The reverse is also true; i.e., your personal creditors can make claims against your business's assets." She does note that some states offer sole proprietors protection of their personal assets from business risks through legal designations that involve the owner's spouse and/or children, but such arrangements are complex, and should not be entered into without first consulting with an attorney. Business owners can also elect to purchase liability insurance for protection from lawsuits and other threats. In addition to general liability insurance, producers or sellers of goods may also want to consider securing product liability insurance. The cost of such insurance varies considerably depending on the type of business under consideration.
Raising capital for a sole proprietorship can be quite difficult as well (though many businesses that operate as sole proprietorships are of modest size and thus are not impacted by this reality). Many lenders are reluctant to provide financing to owners of sole proprietorships—in large part because of fears about their ability to recover the funds should the owner die or become disabled—and even those who make such loans require borrowers to provide personal guaranties on the loan. Sole proprietors who consent to such arrangements are in effect pledging their personal assets as collateral on the loan. Small business advisors counsel clients who are considering these stipulations to proceed cautiously. If a potential lender is taking extra measures to protect itself from default, it may be an indication that the prospective borrower's business plan is viewed—legitimately, perhaps—as flawed or risky. In addition, even well-conceived businesses sometimes fail as a result of circumstances beyond the owner's control. An entrepreneur might, for example, establish a store that is enormously successful for its first few years of operation, only to see it suffer a dramatic downturn in performance with the arrival in town of a much larger competitor that provides its customers with a wider variety of services and goods. Banks and other lending institutions are aware that such scenarios occur, and they plan accordingly.
Continuity and Transferability
Unlike other businesses that can be passed down from generation to generation or continue to exist long after the passage of its original board of directors, sole proprietorships have a limited life. As Brittin wrote, "a sole proprietorship can exist as long as its owner is alive and desires to continue the business. When the owner dies, the sole proprietorship no longer exists. The assets and liabilities of the business become part of the owner's estate."
A sole proprietor is free to sell all or a portion of his or her business to a buyer, but any transaction that transfers ownership or turns the business into one with two or more owners puts an end to the sole proprietorship that had been in existence.
STARTING A SOLE PROPRIETORSHIP
Sole proprietorships often operate under the name of the owner of the business, but this is not a requirement. If the owner decides to select a fictitious name, however, he or she may be required to file a certificate explaining the arrangement in the region in which he or she is operating the business in question (this requirement also gives the sole proprietor legal protection, for it serves to protect them from other persons who might otherwise use the name for their own business enterprises). In addition, many states forbid business establishments from using words like "incorporated," "Co.," or "Inc." unless they actually qualify as corporations. Some cities and counties also require sole proprietorships to secure a business license before launching their business. Owners who subsequently change their business location or add new locations to their operation are often required to obtain new business licenses for those sites as well.
Many sole proprietorships also will need to obtain federal and state payroll ID numbers. These numbers are required for any businesses that will have employees or will do business with establishments that have employees. Finally, owners of sole proprietorships will, like all other business owners, have to obtain the appropriate operating licenses and certificates, if any, for the area in which they will be conducting business. Business licenses and zoning permits are among the types of licenses that are sometimes required. Once these few minor licensing issues have been addressed, the sole proprietor is free to conduct business.
Once a sole proprietorship has been established and proven viable, many business owners eventually choose to incorporate. Incorporation is both more expensive and more time-consuming than sole proprietorship, but it also affords the business owner considerably more legal protection from lawsuits and other liabilities than does sole proprietorship, and it also makes it easier to secure financing for business expansion.
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