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What is a Sole Proprietorship? - Definition, Advantages, Disadvantages & Examples

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  • 0:07 Sole Proprietorships
  • 0:27 Advantages
  • 1:38 Disadvantages
  • 2:53 Lesson Summary
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Lesson Transcript
Instructor: Shawn Grimsley
Many businesses start out as sole proprietorships. In this lesson, you'll learn what a sole proprietorship is and its advantages and disadvantages. You'll also have a chance to reinforce your knowledge with a short quiz.

Sole Proprietorships and Small Business

Meet Beth. Beth loves books and has decided to start a used bookstore. She rents out a small retail space and starts looking for inventory. Beth is a sole proprietor. A sole proprietorship is a form of business where there is only one owner, and there is no legal distinction between the business and the owner. Let's look at what operating as a sole proprietor means for Beth.

Advantages of Sole Proprietorship

Operating as a sole proprietor offers some distinct advantages for Beth. It's a pretty simple and easy type of business organization to manage. As we mentioned earlier, there is no legal distinction between her and the bookstore. Beth is her bookstore, and the bookstore is Beth. So, she doesn't have to worry about a board of directors or shareholders. Beth is the one and only boss, answerable to no one but her customers and creditors. This also makes it easy for Beth to cash out and sell her bookstore when she wants to do so.

Beth doesn't have to figure out and comply with complicated laws and regulations with which corporations must contend. And, she doesn't have to file anything with the state or keep special types of organizational records, like corporate bylaws and meeting minutes. Since she doesn't have to hire accountants and lawyers to prepare paperwork and advise her on complicated laws, she saves a bunch of money.

Income taxes are also a snap compared to corporations because Beth and her business are one and the same in the eyes of the law. Beth is the only taxpayer. She simply reports her business income or loss on her personal tax return. This also means there is no double taxation like with a corporation where the corporation is taxed on its income, and then its shareholders are taxed on dividends distributed to them from the corporation's income.

Disadvantages of Sole Proprietorship

Beth does face some disadvantages as a sole proprietor. The biggest disadvantage for Beth is that she is completely liable for the debts and contractual obligations of her bookstore. If the bookstore doesn't pay its bills, creditors can pursue Beth in court and satisfy any court judgment by selling Beth's property, including things like money in her bank account, her house, car and even her furniture.

She is also liable for any negligence or wrongful acts resulting from operating the bookstore. For example, if a customer slips and falls on the recently waxed floor at the store, Beth may have to pay for damages that customer suffers if a court finds the business was negligent in maintaining the floor. Beth is subject to this personal liability because the law does not recognize any difference between her actions and the actions of her business.

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