A sole proprietorship is one of the simplest types of business formations. In a sole proprietorship, the business is owned and operated by a single person, who has full, uninterrupted control over the business operation.
In a sole proprietorship, the business is not considered a separate legal “person” or entity. There are various features with regard to the control, transferring, and taxation of the business. This type of structure also involves more liability for the business owner, because the assets of the business are not separate from their personal assets. Thus, there are many advantages and disadvantages of sole proprietorships.
Liability for sole proprietorship business debts is different from other business forms such as a corporation or limited liability company (LLC). For example, in an LLC, a person can’t sue the owner and have them pay off business debts with their own personal bank account money- in other words, the business assets and personal assets are kept separate.
This is not the case with a sole proprietorship. Since there is no legal distinction between the owner and their business, the owner can become personally liable on the debts of their sole proprietorship. If a creditor sues the business because the business owes them money, they can “reach” the owner’s own personal property in a lawsuit.
This means that a sole proprietor runs the risk of losing their own personal property on account of their business debt. On the other hand, there are many legal mechanisms and insurance policies regarding debt collection protection for sole proprietorship owners.
An example of liability in a sole proprietorship is as follows: Suppose Bob runs a small manufacturing business out of his home, as a small proprietorship operation. Bob then orders $30,000 worth of supplies from a packaging company. He signs a contract to pay off the supplies over a period of 5 years. Then, in the middle of production, there is a drop in demand, and Bob has to cease the business operation.
Here, the packaging company can sue Bob for the remaining payments on the supplies. If Bob is unable to fulfill the debt using business assets, the packaging company can go after his personal property to fulfill the debt. This may include his personal bank monies, his automobile, or even his home.
Another common example involves personal injuries caused by the sole proprietorship business. For example, suppose Becky operates a small pizza delivery restaurant, as a sole proprietor. If one of her employees injures a pedestrian while delivering pizza, her business may be held liable for the injuries. The injured person can then sue and will be able reach Becky’s private assets, like her car or home, in order to pay for their losses.
Thus, the choice of whether to run a sole proprietorship or an LLC can have major effects in the long run. You will need to go over all your business options before you begin your business operations.
It is generally necessary to hire a lawyer to help with business planning, even for small sole proprietorships. A qualified business attorney in your area can provide you with valuable advice on how to run your business according to state laws. Also, in the event that a lawsuit is file over any business debts, your lawyer can help defend your interests in court.