Sole proprietorships have disadvantages compared to other business structures, including unlimited personal liability for the owner, vague tax status, and difficulty obtaining financing. They are easy to establish but vulnerable to legal conflicts and government scrutiny.
A sole proprietorship is one of the simplest types of legally permitted business structures in the United States, but it has distinct disadvantages compared to the rights and responsibilities of limited liability companies (LLCs), partnerships, and other more formal business structures. One of the key disadvantages of a sole proprietorship is that any liability incurred by the company or its employees is the sole responsibility of the owner. This extends to all of the owner’s personal assets, such as a home, car, personal savings, and real estate, which may need to be turned over if the business is sued and that lawsuit is lost in court. Liability protection in terms of business insurance is always recommended for a sole proprietorship, but at the same time it is expensive to obtain.
Businesses licensed as sole proprietorships also have a rather vague status in tax law, which can create tax problems that are difficult to resolve. The federal government treats a sole proprietorship similarly to someone who holds a job, and taxes are paid based on the income generated by the business. This can vary significantly depending on whether the business requires a net profit or loss and what the owner periodically pays itself in terms of wages. The personal tax deductions and tax brackets that an owner claims can then be modified both by the assets and profits of the business, and by income that the owner arbitrarily chooses on an annual basis. This can make it difficult to comply with local, state and federal tax laws.
Another key aspect of a sole proprietorship that is traditionally seen as a weakness of the corporate format is that such businesses are almost invariably very small and speculative. Such status can make the company look less than professional when compared to larger, more established competitors. This also makes it nearly impossible for a sole proprietorship to obtain growth or startup finance from commercial banks or venture capitalists. Often, if financing is available, it comes with high interest rates, or the requirement that the owner relinquish control of the interest in the business to the organization providing the loan.
The self-employed often start sole proprietorships as their income increases, as the business structure is relatively easy to establish with minimal legal procedures to work out. These same self-employment facts work against a sole proprietorship making it vulnerable when conflicts arise between companies with lengthy legal protections or governments with complicated regulations and tax codes. Agencies such as the Internal Revenue Service (IRS) in the United States can scrutinize sole proprietorship tax filings in a much more minute way than those of corporations due to the fact that there are so many avenues for reporting business profits or losses and deductions through small business . Taxes are often estimated and paid quarterly, which can lead to filing errors by landlords unfamiliar with the complicated tax laws.
Protect your devices with Threat Protection by NordVPN
