Sole proprietorship taxes come with its own set of pros and cons. There are some situations where being a sole proprietor makes sense, but there are also times where the choice to incorporate is smarter. Finding a balance between the two will decide the long-term fate of a business.
A sole proprietor is one in the same with their business. With a high percentage of individuals claiming the sole proprietor status, it makes sense that there are tax benefits to the position. It is a model that many business owners use to protect their investments. When tax time comes around, the advantages of being a sole proprietor goes in full force.
Incorporating A Business
Business that opt out of being a sole proprietor are usually S corporations, C corporations or LLC. All of these focus on making the company a separate entity from the individual. When tax time comes around, there are new and entirely different types of forms to fill out. Based on growth, some companies will switch from sole proprietorship to incorporating their business to save money.
Sole proprietorship simplifies taxes to an incredible degree. You don’t have to file separate business taxes as a result. A side effect of this benefit is the time saved with processing paperwork. Even if you have to make corrections, it will still take less time than filing paperwork as an incorporated business.
With the paperwork being more manageable, a sole proprietor has little use for a fulltime accounting department. Doing the tax work is trivial, and in some cases doesn’t need to be outsourced to third parties. This leads to tremendous savings for your bottom line.
As a sole proprietor, your personal assets are up for grabs since you are one with the company. That means getting sued affects all of your accounts. Business liability insurance can take on an incredibly large chunk of the earnings for a smaller company. But it also becomes a necessary feature to protecting your business. When tax times comes around, an incorporated business will fair much better than a sole proprietor if heavy litigation was involved.
Business loans look at credibility, and for sole proprietors that can be a problem. For the first few years, a company that receives a decent loan is in a positive position. When doing taxes, a creative accountant can spin the loan as a positive for that year. This early head start is something that is often missed by sole proprietors. With their personal and professional debts tied into one, mistakes are more decisive during the early years. This can spin into negative marks on taxes, especially if a high interest loan is attached. The same thing that strengthens the tax returns of an incorporated business turns into a weakness on tax forms for a sole proprietor.
Taxes are tricky when your business isn’t set up right. Optimize your returns by knowing the benefits of sole proprietorship, or by incorporating your business. There are benefits to both, but it is up to you to leave your company flexible enough to take advantage.