Should My Business Be a Sole Proprietorship or Single-Member LLC?

The following question arises frequently:  “If I am the only owner of my business should I spend the money to incorporate or form an LLC?”

Lincoln on U.S. one cent

Image via Wikipedia

To answer this question, you need to understand the difference between being a sole proprietorship and forming a legal entity.

There is nothing required to be a sole proprietor.  If you are in business, and do nothing further, you are a sole proprietorship.  Your employer identification number is your social security number.  A sole proprietorship does not separate the business assets from your personal assets, and therefore, no liability protection is offered.

However, a Limited Liability Company is a separate entity and requires certain filings and an operating agreement.  A limited liability offers limited liability from the debts and obligations of the business and you are not in danger of being liable for business debts unless a personal guarantee of some sort is made (which is a whole separate matter).   In Missouri, the filing fee for a Limited Liability Company is a mere $50, but you do need an operating agreement to actually show ownership of the entity.

So what is really the point of forming an LLC?

There are several arguments for not forming an LLC.  For example, by default, the tax treatment for a sole proprietorship and LLC is essentially the same, unless certain filings are made.  It is true that not forming an entity with limited liability subjects you to potentially unlimited liability.  However, if you are a professional service provider or consultant and what you are selling is a service, you will likely be liable for your actions anyway.  If you form an LLC, your personal signature and guaranty will likely be required when entering into a contractual obligation or debt, like signing a lease or borrowing money from the bank.  So the limited liabilty won’t save you from being personally liable.

It is also true that you can form an LLC later, when the business has grown, your cash flow has improved and/or you want to raise money by giving away some ownership of your business to another person.
However, with all of these arguments against forming LLC’s, I still advise my clients to form an LLC.  So why?
An LLC separates your personal liabilities from those of the business, and vice versa in most occasions, except those listed above.  An LLC also offers charging order protection, which means that a creditor cannot take the LLC as an asset, but can only get to the profits of the LLC.  If you form an LLC later on, you will face additional expense in transferring assets, contracts, and other items to an LLC.  You will have to obtain a new tax identification number, form new bank accounts, and get insurance in the name of the LLC.
In the end, forming a legal entity at the outset of your business, if properly formed, is the best answer.  If you need assistance in forming an LLC, please contact me at lbailes@rs-law.net or 816-229-2132.  I would be happy to talk with you about forming your business entity.
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