LLC Vs Sole Proprietorship: Smart Business Choice

The U.S. saw nearly 5.5 million new business applications filed in 2023, setting a new record. New business owners face a vital decision at the time they choose between an LLC vs sole proprietorship. This choice can affect their future success.

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Sole proprietorships let you start with zero costs and test new business ideas easily. LLCs give you personal asset protection and help build credibility with lenders. Your choice of business structure shapes your tax obligations and personal liability. LLC setup costs range from $50 to $500, but this investment could shield your personal assets from business debts - a protection sole proprietorships don't provide.

Let's explore the main differences between these business structures to help you decide better. This piece walks you through everything you need to think over before picking your business structure, whether you're starting small or planning big.

Understanding the Basics: LLC vs Sole Proprietorship

Choosing between an LLC vs sole proprietorship means you need to know how each business type works. These options come with their own benefits and limits that affect how you run your business, protect yourself legally, and handle taxes.

What is a sole proprietorship?

The simplest business structure you can have in the United States is a sole proprietorship. You become automatically considered a sole proprietorship when you start doing business without registering as another type of business entity. One person owns and controls everything in this unincorporated business type.

A sole proprietorship means you and your business are the same thing legally . The law sees you and your company as one entity. You get all the profits, but you're also on the hook for any debts, losses, or legal issues your business faces.

Getting started with a sole proprietorship needs very little paperwork. You won't need to file formation documents with your state, though you might need business licenses from local authorities or professional permits your industry requires . You'll need to register a "doing business as" (DBA) name if you want to use a name other than your legal one .

What is a single-member LLC?

A single-member LLC is a limited liability company with just one owner, called a "member" . Unlike sole proprietorships that happen automatically, you must file paperwork with your state to create an LLC. The business becomes its own legal entity, which gives the owner important protections .

The Internal Revenue Service (IRS) says a limited liability company is created by state law . To form a single-member LLC, you must submit Articles of Organization to your state government . This costs a filing fee between $50 and $500, depending on your state .

On top of that, many LLC owners create an operating agreement that spells out ownership and how the business runs, even though single-member LLCs don't always legally need one .

Key legal differences between the two

The biggest difference between these structures is how the law views the owner and business relationship. A sole proprietorship has no separation between personal and business assets . An LLC, however, stands on its own as a separate legal entity from its owner .

This legal separation changes how liability protection works. Sole proprietors are personally responsible for all business debts and obligations. Your personal assets - home, car, savings - are at risk if your business can't pay its debts or gets sued . LLC owners get a shield that usually keeps their personal assets safe from business creditors and lawsuits .

The tax situation is similar for both. A single-member LLC is a "disregarded entity" for federal taxes by default . Just like a sole proprietorship, the business doesn't pay taxes itself. The profits and losses flow to your personal tax return, usually on Schedule C of Form 1040 .

All the same, LLCs give you more tax options. Sole proprietorships must use pass-through taxation, but single-member LLCs can choose to be taxed as corporations by filing Form 8832 with the IRS . This choice might save you money, depending on your financial situation.

The rules you must follow are quite different too. Sole proprietorships need to meet just a few basic requirements beyond business licenses. LLCs must keep up with state rules, which often means filing yearly reports and paying fees .

Startup Simplicity: Formation and Setup Requirements

Starting a business needs several practical steps that change based on your chosen structure. The way you form your business is one of the most important differences between an LLC vs sole proprietorship. This affects both your original costs and ongoing administrative needs.

LLC registration steps and costs

You need to file official documents with your state government to form an LLC. The first step is submitting Articles of Organization (sometimes called Certificate of Organization or Certificate of Formation) to your state's business filing office, usually the Secretary of State . This registration makes your LLC a legal business entity.

The state filing fees to set up an LLC range from $50 to $500, with Massachusetts having the highest rate at $500 . Most states charge between $100-$200, and the national average sits at about $132 as of 2025 . Along with the filing fee, you'll need to:

Choose an available business name that follows state rules
Pick a registered agent who handles legal papers for your LLC
Create an operating agreement (required by law in some states like New York)
Submit annual or biennial reports and pay the fees

Most states require LLCs to stay compliant through ongoing filings and fees that cost $20-$100 each year . Your LLC could lose its good standing or even be shut down if you skip these renewals.

Sole proprietorship setup process

Setting up a sole proprietorship is much simpler. You become a sole proprietor as soon as you start doing business without registering as another type of business entity . The business structure itself needs no formal paperwork.

This makes sole proprietorships the quickest way to start a business . You don't have to file formation papers with your state or pay filing fees, which cuts down your startup time and costs compared to an LLC.

In spite of that, based on where you are and what your business does, you might still need to:

Get business licenses or permits from local authorities
Apply for professional or industry-specific licenses
Get an Employer Identification Number (EIN) if you want to hire employees

The biggest drawback of sole proprietorships is unlimited personal liability - your personal assets remain at risk for business debts and legal claims .

DBA requirements for both structures

LLCs and sole proprietorships might need to register a "doing business as" (DBA) name if they work under a different name than their legal one . This fictitious business name registration helps protect consumers by letting them know who actually owns the business.

Sole proprietors can only legally work under their personal name unless they register a DBA . That's why most sole proprietors get a DBA to create their own brand identity.

LLCs often register DBAs when they expand into new markets or launch different product lines without creating new entities . You usually register at the county or state level, and filing fees run between $10 and $100 .

DBAs help with marketing but don't give you extra legal protection . Banks usually want sole proprietorships to have a registered DBA before opening a business account . This makes getting a DBA practically necessary even though it's technically optional.

Liability and Legal Protection: What’s at Stake

The legal difference between business entities means more than just paperwork and taxes—it directly impacts your personal financial security. Your choice between an LLC and sole proprietorship could affect your financial future, and liability protection plays one of the most important roles in making this decision.

Personal asset protection in an LLC

The life-blood benefit of starting an LLC is the personal liability protection you get. An LLC works as a separate legal entity that creates a "corporate veil"—a legal barrier keeping your business assets separate from personal ones. This means only your business assets are at risk if someone sues your company or it can't pay its debts.

My LLC structure keeps my personal property safe from:

Business creditors who want payment
Client or vendor contract disputes
Most business-related lawsuits
Commercial lease obligations

This protection exists because the law sees an LLC as its own "person" with legal rights and responsibilities separate from its owners. Therefore, if someone sues my business, they're suing the LLC entity, not me as an individual.

This protection has its limits though. Courts can "pierce the corporate veil" in some cases, which removes your liability shield. This usually happens when you:

Mix personal and business funds
Don't keep proper business records
Use the LLC for fraud or illegal activities
Don't provide enough capital on purpose

You need to treat your LLC as a real separate entity to keep this protection. This means separate financial records, following state rules, and running your business legally and ethically.

Unlimited liability in a sole proprietorship

A sole proprietorship works quite differently—it doesn't separate you from your business at all. You and the business are the same thing legally. Without this separation, you face unlimited personal liability for everything your business owes.

If your sole proprietorship can't pay its debts, creditors can legally go after your personal assets—your home, bank accounts, cars, and investments are all fair game. Anyone who sues your business is actually suing you personally.

To name just one example, see what happens if a customer slips and falls in your store run as a sole proprietorship. They can sue you personally, and your personal savings might end up paying for the judgment, even if your business account is empty.

This unlimited liability goes beyond lawsuits. If your business fails with unpaid debts, creditors can:

Make you sell your personal property
Take money from your wages
Put liens on your personal assets
Get into your personal bank accounts

Sole proprietorships might be simple with low startup costs, but they put all your personal finances at risk. That's why many business owners think the extra costs and paperwork of an LLC are worth it to protect their financial security.

Whatever structure you pick, you should know how these liability issues might affect you before starting your business. Your personal financial future could depend on it.

Taxation Differences: How Each Structure Affects Your Taxes

Tax considerations are another key reason to choose between an LLC vs sole proprietorship. These structures share some tax features but differ in ways that can affect your finances by a lot.

Pass-through taxation explained

Both sole proprietorships and single-member LLCs are "pass-through" entities for federal tax purposes. The business doesn't file separate tax returns or pay entity-level taxes. All profits and losses flow through to the owner's personal tax return.

As a sole proprietor, you report business income and expenses on Schedule C of your personal Form 1040. The net profit becomes part of your personal income and gets taxed at your individual rate .

The IRS treats a single-member LLC as a "disregarded entity" by default . This means they don't see the LLC as separate from its owner. Just like sole proprietors, single-member LLC owners report their business on Schedule C of personal returns .

Pass-through treatment gives you a big advantage - no double taxation. Traditional corporations pay taxes twice - at corporate and individual levels when distributing profits. Pass-through entities pay just once .

LLC tax flexibility: S corp and C corp options

Sole proprietorships must stick with pass-through taxation, but LLCs have more options. Single-member LLCs start as disregarded entities but can choose different tax treatment by filing IRS forms.

LLCs can be taxed as S Corporations by filing Form 8832 and Form 2553 . This keeps pass-through taxation but can save a lot on self-employment taxes. With S Corp taxation, you pay yourself a "reasonable salary" that's subject to employment taxes. You can then take extra profits as distributions that avoid the 15.3% self-employment tax .

LLCs can also choose C Corporation taxation by filing Form 8832 . This means paying corporate income tax at a flat 21% rate . Businesses planning to reinvest profits instead of distributing them might benefit from this option.

The Qualified Business Income (QBI) deduction offers another tax benefit. Sole proprietorships and LLCs may qualify for this valuable deduction. Eligible business owners can deduct up to 20% of their qualified business income .

Self-employment tax obligations

We paid self-employment taxes differently in these business structures. This tax funds Social Security and Medicare at a current combined rate of 15.3% (12.4% for Social Security and 2.9% for Medicare) .

Sole proprietors pay self-employment tax on all net business income plus income tax . The Social Security portion (12.4%) applies only to the first $177,000 of net earnings (as of 2022). The Medicare portion applies to everything you earn .

Single-member LLC owners filing as sole proprietors must also pay self-employment tax on their entire business profit . You'll pay self-employment tax on all profits reported on your tax return, even if you keep profits in your business .

LLCs get an edge by choosing S Corporation status. Under S Corp rules, only your reasonable salary faces self-employment taxes - not distributions . This could save thousands in taxes, especially for profitable businesses.

Note that self-employment tax doesn't apply to passive income, like rental income from LLC-owned properties .

Control, Compliance, and Administrative Burden

The daily operations of an LLC versus a sole proprietorship are one of the most important factors to consider. Your choice will affect how you run your business and what responsibilities you'll have.

Ongoing compliance for LLCs

LLCs must meet state requirements to stay in good standing. Most states want annual or biennial reports about your business activities, ownership details, and registered agent information . Missing state deadlines for these reports can lead to fines or your LLC might even be dissolved .

Single-member LLCs don't have as many rules as corporations. You won't have mandatory board meetings or need to keep extensive records . In spite of that, you should keep separate bank accounts and detailed business records. These records help protect your personal assets from business debts .

Some states have extra requirements such as:

Publishing LLC formation notices in local newspapers
Filing beneficial ownership information reports at the federal level
Paying franchise taxes or annual fees

Ease of management in sole proprietorships

We chose sole proprietorships because they're simple to run. You can focus on your business instead of dealing with compliance rules . As the owner, you make all business decisions without getting approval from others .

Sole proprietorships don't exist as separate entities. Your business automatically ends when you stop working - though you'll still need to cancel any licenses or registrations .

Your business privacy gets better protection with a sole proprietorship. Since you're not publicly traded like corporations, you don't have to share financial information . This keeps your operations away from public view.

Registered agent and reporting requirements

Every LLC needs a registered agent - someone who receives legal documents and government mail . This agent must have a physical address (not a P.O. box) in your LLC's state and be available during work hours .

States require registered agents for all LLCs . Without one, you could lose your good standing, struggle to get loans, fail to close deals, or have your LLC dissolved .

Sole proprietorships don't need registered agents, which makes them easier to manage.

Which Is Right for You? Use Cases and Decision Factors

Your specific circumstances, goals, and risk tolerance will determine the best business structure for you. Let's get into which option works best for different business scenarios.

Best for low-risk, low-cost businesses

Sole proprietorships work great for entrepreneurs in low-risk industries or those who want to test a business concept before committing to a formal structure . This structure lets you start operating right away without paperwork or filing fees if you're launching a consulting service, freelance writing business, or small online shop.

The Small Business Administration suggests sole proprietorships are perfect for entrepreneurs who need to confirm their business idea before creating a more formal entity . This category fits businesses with minimal startup costs, low liability exposure, and single ownership.

Of course, you'll expose your personal assets to business liabilities – a risk some people accept when starting small.

Best for growth-focused or high-risk ventures

LLCs are a vital structure for businesses with medium or higher risk levels, especially when you need to protect your personal assets . Service-based businesses that could face liability issues benefit from this separation between personal and business assets.

Banks prefer lending to LLCs over sole proprietorships because of their legal protection and structured finances . A Forbes report shows LLCs get about 30% more credit approvals than sole proprietorships .

The numbers tell an interesting story - 75% of LLCs get better access to funding after formation . The Harvard Business Review found businesses with formal structures attract more investors than sole proprietorships .

Checklist to help you decide

Think over these factors before making your choice:

Asset protection needs: Do you have valuable personal assets that need protection?
Growth intentions: Do you plan to seek external funding or add employees soon?
Risk assessment: Does your industry face many lawsuits or liability issues?
Tax priorities: Would the tax flexibility of LLCs benefit you?
Administrative tolerance: Can you handle compliance requirements and costs?
Long-term vision: Are you testing an idea or building for major growth?

You can switch structures as your business grows, but picking the right one from the start saves time and money.

Comparison Table

Feature	LLC	Sole Proprietorship
Formation Process	State filing of Articles of Organization needed	Business starts automatically
Setup Costs	State filing fees range from $50-$500	No filing costs
Legal Status	Business exists as separate legal entity	Business and owner are one entity
Personal Asset Protection	Business debts do not affect personal assets	Owner bears unlimited personal liability
Tax Structure	Default pass-through taxation with S-corp or C-corp options	Pass-through taxation only
Self-Employment Tax	S-corp election might reduce tax burden	All business profits face taxation
Annual Compliance	Reports due annually or every two years	Basic regulatory requirements
Ongoing Costs	Annual fees between $20-$100	Little to no costs
Registered Agent	Mandatory requirement	Not needed
Record Keeping	Business records must stay separate	Basic documentation needed
Business Credibility	Lenders view more favorably	Lenders view less favorably
Privacy	Public records mandatory	Better privacy without public records
Operational Control	Single member maintains full control	Owner maintains full control
Best Suited For	High-risk ventures focused on growth	Small-scale, low-risk operations

Conclusion

Your choice between an LLC and sole proprietorship will shape your business's future success and security. Research shows sole proprietorships excel at testing new business ideas and running low-risk ventures. We found their zero-cost setup and simple operations make them particularly attractive.

LLC formation requires $50 to $500, but this investment protects your personal assets and builds credibility with lenders. The structure gives you tax flexibility through S-corp or C-corp election options and can save thousands in self-employment taxes.

Your specific situation determines the best path forward. Risk exposure, growth plans, and available resources should drive your decision. Sole proprietors have unlimited personal liability but benefit from complete privacy with minimal paperwork. LLC owners must meet compliance requirements yet receive legal protection and better funding access.

Business structures can adapt as companies grow. Many successful companies begin as sole proprietorships and later become LLCs when they prove market viability or face higher liability risks. The right approach matches your current needs while leaving room for future growth.

FAQs

What are the main differences between an LLC and a sole proprietorship?

An LLC is a separate legal entity that provides personal asset protection, while a sole proprietorship offers no separation between the owner and the business. LLCs require state registration and have more compliance requirements, whereas sole proprietorships form automatically and have minimal regulatory obligations.

How does taxation differ between an LLC and a sole proprietorship?

Both structures typically use pass-through taxation, where business income is reported on the owner's personal tax return. However, LLCs have more flexibility and can elect to be taxed as S-corporations or C-corporations, potentially reducing self-employment taxes. Sole proprietorships are limited to pass-through taxation only.

Which business structure is better for protecting personal assets?

An LLC provides better protection for personal assets. It creates a legal barrier between the owner's personal finances and business liabilities. In contrast, a sole proprietorship offers no such protection, leaving the owner's personal assets vulnerable to business debts and legal claims.

What are the setup costs for an LLC compared to a sole proprietorship?

Forming an LLC typically costs between $50 to $500 in state filing fees, plus potential ongoing annual fees. Sole proprietorships have no formal setup costs, making them essentially free to establish. However, both may incur costs for business licenses or permits depending on the industry and location.

When should a business owner consider switching from a sole proprietorship to an LLC?

A business owner should consider switching to an LLC when their business faces increased liability risks, plans for significant growth, seeks external funding, or accumulates substantial personal assets that need protection. The transition is also beneficial when the tax flexibility of an LLC could result in significant savings.