The Pros and Cons of Operating as a Sole Proprietor 

It’s a series! What better way to kick off the month of May than by tackling one of the top five questions we get on a regular basis. Which business entity should you choose for your business.  The best entity is relative to your needs so it will vary not only person to person but sometimes from stage to stage of your business. 

Listen and learn as Attorney Murray begins part one of our four-part series on the pros and cons of the four main business formations.  Today’s episode takes the mystery out of sole proprietorship, so stay tuned. 

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About the Own Your Genius Podcast

The Own Your Genius podcast is the perfect mix of business, law, and mindset to help black entrepreneurs succeed in business and life.

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Episode Transcript

It’s my birthday month, I’ll be 44 in a few weeks, and I thought what better way to bring in 44 than with something new? We haven’t done a series before, so I decided that I wanted to do one, and I was like, what should we do? What should we talk about? What would be a good topic that people would wanna tune in for week after week? And then I was like, ah, I know. We’re gonna talk about the different business formations, because I’m gonna tell you that I get that question a lot. I know it’s a good topic because I am constantly asked what business entity is the best and which ones should someone choose. And the answer is always the same. Best is relative to what you want to accomplish, so it really depends. So over the next few weeks in May, we are going to take a business entity and we’re going to talk about the pros and cons of each one. You ready? Here we go.   
Welcome to episode 118 of the Own Your Genius Podcast. I’m so excited that we’re starting this series this month, my birthday month, when I turn 44. I love May, I love the temperature, it’s just right. It’s like not too hot, not too cold. The sun is shining and it really is when I operate in my best. Anywho, you’re not here to talk about me. We’re here to talk about a business formation. And the one that we’re gonna start with is sole proprietorship. And so, today, we’re going to answer the following questions:
  • What a sole proprietor is?
  • How do you form a sole proprietorship?
  • What are the benefits of operating as a sole proprietor, and
  • What are some of the consequences for operating as a sole proprietor?  
A sole proprietor is one person doing business with absolute control over the business operations. And I believe to truly understand what it means to be a sole proprietor, you need to write down of that definition. 
One person, that’s a little self explanatory, right? One person. Doing business, and this one is a good one because believe it or not, a lot of people don’t know what business is. They believe the act of forming the business is a business. However, a business is an activity entered into for profit. And I remember I had this law professor who had like this weird acronym for it. It was like, I don’t know. It was just weird. I was like, sir, that’s not gonna help me remember an activity entered into for profit. I just got distracted, that was funny. Anywho, anywho, anywho, anywho.  
So when we talk about an activity, I think we can all kind of understand an activity that’s entered into. So whether you’re selling a good or providing a service that is an activity. But let’s talk about this for-profit part. Let’s just break it down just a little bit more. So for-profit, according to Oxford Dictionary, the definition of for-profit is for financial gain. And specifically, the difference between the amount that’s earned and the amount spent in the buying, operating, or producing of something. So how much money it took, the money that you earned, subtracted by the money that it took for you to earn this money basically and that’s the financial gain. And I want to stress that because really that for profit part is the real difference between a business and a hobby. When you’re looking at a business and a hobby, they’re gonna look at two things. They’re gonna look at the time and effort that’s exerted into making that profit. Are you doing the work that’s necessary to have financial gain? Or is this something that you’re just doing for fun or one off and I don’t know why but for some reason I thought about rent parties, maybe because today is the first of the month, I don’t know. But back in the day, and maybe they still do it today, I don’t know because I don’t get out very much now. But back in the day they used to have these rent parties where if you were falling short on your rent, you would invite people over, charge them something to get in. And when everybody left, hopefully you had the money you needed to make your rent. 
Right? And so the question is, is that a business? 
Let’s check it out. So an activity, so it was an activity, they do a party, entered into for profit and from my standpoint, I would say no. And the reason I would say no is because they said for profit, not for money. So profit is a financial gain. You really entered into this so that you can make your rent like enough money for your rent because you were falling short on it. But I don’t know. That’s just me and what I’m thinking. Then you also wanna know if we’re talking about is it a business, how much time does it really take to throw a party or to host a party, to get this rent party together? A lot of times those rent parties were short notice because you didn’t start off the month knowing you weren’t gonna make the rent. In most cases, it was like, oh crap. Rent is due in three days, let’s throw something together. Let’s do, find a way that we can make this money. So if you’re not putting in the time and effort and you’re not making a profit, then you don’t have a business anymore. Like I have a hobby or a hustle, right? So would you also want to explore it a little bit more, right? You can ask some more questions like, is this a regular occurrence? Like, are you constantly throwing these parties for rent? And are you calling a rent party with the intent of making financial gain other than just making money? Like, are you really intent on making a profit versus just having this money for rent? Those are some considerations that you want to think about.
And the second thing that we’re going to talk about, or the second difference between a hobby and a business is, are you in fact making a profit? If we go back to our last question, like are you calling a rent party with the intention of making financial gain? So are you really throwing this rent party, but making profit after profit after profit, right? Because if you are making profit, you have a business and not a hobby. And that’s important as we explore the self-proprietorship. And I say that, and I wanted to spend some time on profit because I think that they were very intentional when they were coming up with the definition for business. Because they could have said an activity entered into to make money. But there’s a difference between making money and making a profit. Because when you’re talking about making money, you’re not taking into account the expenses that it took to produce that good or service. So I think they were very intentional about the words that they chose, which is why when you’re trying to decide whether or not you have a business or a hobby that you have to be intentional to, you have to take into consideration, am I making money or am I making a profit? Right?
So, now we’re talking about this definition of self-proprietor, we have one person, right, doing business, now we know what doing business is, with absolute control of those operations. And so absolute control is referring to the ability or the authority to make all the important decisions in that business. Like you don’t have to check with anyone. The book starts and stops with you. So if you are one person doing business with absolute control, guess what? You are a sole proprietor. That’s it. Like it doesn’t take anything other than that. No formal documents for you to form this sole proprietor to form this business. That’s it. Which makes it like the easiest formation to get started with and also the cheapest. Like if you don’t have to file paperwork with the state, then you’re definitely saving money. 
Another thing to consider too when we’re talking about self-proprietors is that when you are a self-proprietor, your business legal name is your legal name because you and the business, y’all go together real bad, real bad. And so all business that operate as a self-proprietor, your business name is your name. But then you have other business owners that operate as self-proprietors who have DBAs or they’re doing business as also known as a fictitious name. So for example, Jimmy Kidd owns a pest control company that he calls Jimmy’s Critter Control. Jimmy’s Critter Control is his DBA, but his business legal name when he’s filling out paperwork is Jimmy Kidd. And for a lot of states, you have to, if you’re gonna operate under a fictitious name, you’re gonna have to provide written notice such as an affidavit or even registering that name with as a trade name in the state. But you just have to check, you have to check with your state and see what you have to do because the rules vary from state to state. 
So now we know what a sole proprietor is. We know how to form a sole proprietorship. Let’s talk about benefits, baby. Like why would anybody choose to operate as a sole proprietor? Especially today when the internet is like, oh my gosh, LLCs are so great. They will solve world hunger and give world peace and the cure for cancer, all of those things, right? Yeah, okay.  
So I have four reasons why people choose to operate as a sole proprietor. You ready? Here we go.
One it’s so simple to form. We’ve already talked about it. Some people just kind of fall into being a sole proprietor But they transition from hobby to business or they’re wanting to make sure that they’re actually making a profit before they go to form of a formal business entity. So they operate as a sole proprietor.
Two the cost is low. So speaking of wanting to make sure that you’re making a profit before you invest more money, like why spend money forming a business entity if you aren’t sure that business is going to make a profit or that you have what it takes to run that business long term? Because I’ll tell you, and I know from experience, people will be excited. They will invest to start a business and form LLC or a corporation. And when you go to check on them in a year, nothing. So maybe it’s okay to start out as a soul proprietor just to make sure that this is something that you really wanna do. 
The third reason is you have all the say. Like you have all the say in how your business is run. Remember that absolute control? Yeah, that’s you. That’s you, you got it. You have no board to report to, no partners to check in with, no shareholders to make happy. It’s just you and your vision. Whatever you have up here, you can execute without any red tape from any other party other than like the state and the government. Like you gotta be legal and stuff, right? 
So let’s talk about these consequences. Why are some reasons that people might not want to operate as a sole proprietor? Reason number one, you and your business are one. Y’all go together real bad. Y’all go together real bad. Like, if something happens in your business, you’re going to be personally responsible for it. If someone slips and falls in your place, if you found guilty of intellectual property infringement, your home and other personal property could be on the hook to pay those damages.  
Two, because of the ease of starting a sole proprietorship, okay, because of the ease of starting a sole proprietorship, many business owners forget that there’s other paperwork required to legally operate their business. So you might start this business, but are you operating legally? You have licenses and permits that are issued from the city and state that may be overlooked. Which will result in fines that business owners will have to pay, and that’s oftentimes money that a small business owner might not have. 
Third reason you might not want to operate as a sole proprietor. Raising money as a sole proprietor can be difficult. Like getting business loans and even during COVID when they were giving out, I don’t want to say giving out, when they were offering grants and different programs for small business owners, if you weren’t a formal business entity, if you weren’t an LLC or a corporation or something of that nature, then you had a hard time getting those funds. So, that’s number three, raising capital can be difficult. 
Number four, let me just tell you. Self-employment tax is a, maybe that $15,000 is not a joke. It’s no joke. And if you don’t have enough deductions, then that is on you. Trust me, I know. I know. I know this before I knew better. This is before I knew better. Now I have accountants that advise me and now I don’t have to do that. I don’t live that life anymore. But if you’re a sole proprietor, you’re gonna live that life and that is definitely a consequence to running your business as a sole proprietor, in my opinion.  
So tell me, what do you think about today’s podcast? Better yet, tell me, what do you think about this series? Are you excited to learn about the different business entities that are out there? Let me know. Let’s discuss it. Tell me in the comments.