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Sole Proprietorship Taxes

Sole proprietorships are one of the most common organizational structures used by entrepreneurs. Starting and maintaining a sole proprietorship is easy and low cost, which is why so many people choose to do business this way. There are however some downsides to conducting business as a sole proprietor, the most significant of which is that you have unlimited personal liability for matters arising in your business. Depending on what you do, a sole proprietorship may be the perfect business structure for you, however, before you choose to become a sole proprietor you should understand the pros and cons of doing so and compare its features to those of other organizational structures.

COURIER

Meehan, a full time college student who works as a courier for Instacart on nights and weekends. Since he only makes grocery deliveries for a few hours each week, he decided that the simplicity of a sole proprietorship would suit his business needs well. Accordingly, when Meehan began making deliveries for Instacart all he had to do was start! Further, when April rolls around he just needs to submit a Schedule C along with his Form 1040.

TASKER

Toby is a 9-5er from Ann Arbor, Michigan. In anticipation of the fall semester starting, he joined Taskrabbit so he could make some money on the side building Ikea furniture for college students. Since Toby only planned on doing this kind of work a couple times each year, he decided a sole proprietorship would be best for him since there are no costs associated with starting this type of business.

CLEANER

Missy has a growing cleaning business that sources much of it's work from Homejoy. She is looking to hire her first employees and wants to sell a stake in her business to a family friend to help fund her growth. Unfortunately, since Missy organized as a sole proprietorship, she would not be able to sell any interest in her business.

REAL ESTATE AGENT

Jing is an new real estate agent who has been conducting business as a sole proprietor for the past two years. Last year, Jing sold a home that subsequently collapsed and injured the buyer. The buyer recently filed a lawsuit against Jing's business for failing to disclose the damage to the home that caused the collapse. Unfortunately, since Jing sold the home as a sole proprietor she has unlimited liability and stands to lose all of her home as a result of the lawsuit.

PROFESSIONAL SERVICES

Gary, an editor, started doing business as a sole proprietor in 1973. In 2015 Gary died from natural causes. At the time of his death Gary's business employed 5 people and had over $500,000 of assets. Unfortunately, since Gary never changed is organizational structure from a sole proprietorship, when he died his business was dissolved and all of his employees were laid off. Had Gary organized his business as a perpetual entity instead of a sole proprietorship, it could have continued to exist after his death.

WHAT TO KNOW ABOUT SOLE PROPRIETORSHIP TAXES

As a sole proprietor, your net business income is taxed at personal income rates. This is because sole proprietorships are so-called "pass-through" entities, which are businesses without a separate tax rate. Business income "flows" or "passes" through to the personal level before being taxed. Sole proprietors, like other pass-through entities, are responsible for both income and self-employment tax (the employee and employer portion of Social Security and Medicare contributions). The 2017 Tax Cuts and Jobs Act established a new tax deduction available to taxpayers with business income, referred to as the "business income deduction". This deduction effectively lowers the tax rate for millions of small businesses and self-employed taxpayers. The deduction is up to 20% of business income after deductible expenses, but can be limited or disallowed by various factors like total taxable income and type of business.
One of the major downsides to being a sole proprietor is there is no legal separation (corporate veil) between you and your business, which means that you have unlimited personal liability for your business.
All you need to do to conduct business as a sole proprietor is obtain any business licenses required by your state and begin working. You will typically be considered a sole proprietor for both tax and legal purposes if you take no actions to organize your business as a separate legal entity.
Remember, sole proprietorships are not perpetual; they cease to exist when you die. Accordingly, one of the downsides of a sole proprietorship is that your business cannot continue on without you, no matter how successful it is or how long you have been in business.
Since sole proprietorships are not separate legal entities you simply need to attach Schedule C to your individual 1040 to pay tax on your business income. The IRS does not require sole proprietorships to file any separate business income tax returns.

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