Definition of a sole proprietor
The IRS defines a sole proprietor as “someone who owns an unincorporated business by himself or herself.” It is the simplest and most common way to start a business. Completing a Schedule C with your 1040 tax form showing that you have business activity is about the only thing that shows that you are a sole proprietor to the IRS.
You do not have to take any formal action to form a sole proprietorship. The status comes automatically from your business activity. In fact, you might already be a sole proprietor and not know it. Chiropractors, accountants, and freelance designers are all possible examples. Also note that while a sole proprietor has to be an individual, individuals are not always sole proprietors. Individuals do not always own a business.
Differences with other business types
Sole members of a domestic limited liability company (LLC) that elect to treat an LLC as a corporation are considered stockholders and are not sole proprietors. The same holds true for sole owners of a corporation. Furthermore, members of an LLC with multiple members are also not considered sole proprietors as they are “members” of the LLC. See the Business Structures section on the IRS.gov website for further information.
Liability concerns for sole proprietors
From a liability perspective, there is no distinction between the individual and the business when operating as a sole proprietor. If someone sues the business, the individual and all of their assets are at risk. If the business owes a balance on a loan, the individual is responsible to repay the loan as well. Because of these risks, it is typically advised to set up a corporation or LLC when starting a business. A corporation or LLC is a separate legal entity and the debts and liabilities of the business typically do not pass to the owners. Setting up these entities is relatively cheap and easy. We recommend using an online service like legalzoom.com.
How to complete a W-9 form as a sole proprietor vs an individual
To complete Form W-9 as a sole proprietor enter your individual name as shown on your 1040/1040A/1040EZ on line 1. Next, on line 2 you can enter your business, trade, or “doing business as” (DBA) name. Line 2 is optional but it is helpful to the person requesting Form W-9 to identify your business. An individual that does not operate a business would leave Line 2 blank. Fortunately, the distinction between an individual and a sole proprietor is not important when completing line 3. Individuals and sole proprietors check the same box, “Individual/sole proprietor or single-member LLC.”
When completing the TIN number section, sole proprietors typically use their Social Security Number. However, we recommend from a security perspective that all sole proprietors use an EIN number in their name. An EIN number can be used instead of your Social Security number to help reduce the risk of identity theft. Just be certain that the name on Line 1 matches the TIN number given. An EIN number can instantly be obtained online through the IRS.gov website. For more information on completing Form W-9 see How to Fill Out a Form W-9.
Use W9manager’s guided process to create your W-9
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Disclaimer – Any accounting, business or tax advice contained in this communication, including attachments and enclosures, is not intended as a thorough, in-depth analysis of specific issues. In addition, this article is not a substitute for a formal opinion, nor is it sufficient to avoid tax-related penalties.