Whether it is better to incorporate your business or continue to operate as a sole proprietor is a matter of choice. Each structure has its own legal and tax ramifications. If you plan to expand the business by adding owners or partners, you should definitely incorporate the business. However, if you like the idea of controlling every aspect of the business, without having to follow rules and regulations, it is best to operate as a sole proprietor.
Liability
From the standpoint of protecting your personal assets, it is better to incorporate your business, since owners of a corporation have limited liability protection from company liabilities. Operating as a sole proprietor exposes you personally to all the company's debts and obligations. If you choose to operate your business as a sole proprietor, you may lose your home and other personal assets as a result of the company's business debts. Forming a corporation will prevent your personal creditors from pursuing your business assets as compensation. A sole proprietor may lose business assets from his company as a result of personal debts. Since a single person can form a corporation in every state, it makes sense to incorporate if you want to protect your personal assets from business debts.
Taxes
Double taxation is a big negative when operating a corporation. Double taxation is the term used to refer to the fact that a corporation is taxed twice on the company's earnings. Corporations are required to pay taxes on all the company's income after deductions for expenses such as salaries. A corporation's income is taxed at the company's corporate rate. The second layer of taxation occurs when dividends are distributed to the corporation's owners. An owner of a corporation is required to pay taxes on dividends received from the corporation at her individual tax rate. Income received from a corporation is reported on the owner's individual income tax return. It is better to operate as a sole proprietor if you want to avoid double taxation. Sole proprietors have a single layer of taxation, and are not required to file taxes with the Internal Revenue Service as a business. A sole proprietor simply reports her business profits and losses directly on her individual or joint tax return.
Formalities
Operate as a sole proprietorship if you like the idea of dealing with few ongoing formalities. Sole proprietorships have far less paperwork and regulation to deal with compared to a corporation. There is no paperwork required to form a sole proprietorship, but business owners who decide to incorporate are required to file formation documents with the Secretary or Department of State in the state where the company operates. Every state has a filing fee that must be paid when filing incorporation documents. This is not an expense that sole proprietors will have to incur. Furthermore, corporations are required to file a certificate of authority in every state where the company conducts business. This means the corporation will have to pay a fee to conduct business in every state where the company operates. Sole proprietors do not have to deal with such regulations. In addition, corporations are required to file annual reports and financial statements in every state where the company operates. Sole proprietors are not required to create financial statements or annual reports.
Considerations
If you hope to raise money by taking your company public, you should incorporate as opposed to operating as a sole proprietor. Corporations have the ability to issue stock as a way to raise capital. A corporation can create an initial public offering, which allows the company to raise substantial capital by offering its stock on the stock market. Sole proprietors cannot add investors, issue stock or offer ownership interest. As a corporation, you may lure a talented employee by offering him ownership interest in the business as part of his compensation package. This is not possible in a sole proprietorship, which means you may have to pay a higher wage or salary to attract a key employee.
