A Look at Business Organization Structures: Sole Proprietorship
Updated: Jul 9, 2020
This post should not be relied upon as legal advice.
Just the other day, I posted on the use of business organization structures by Maryland producers and the fact that the vast majority has not adopted any form of business structure to help limit their liability (see previous post). Today as promised, Ashley and I start a series of blog posts on business organization structures. Adoption of a business model will depend on many factors — tax, personal, financial, etc — and the goal over the next few weeks is to better inform you about each business organization structure. At the end, to pick the best business organization structure for you and your operation, please talk to your tax professional and attorney to understand how this decision will impact your situation.
A sole proprietorship is the simplest business organization structure which may be the reason so many businesses adopt it. With a sole proprietorship, no filing is required with the state. Creating a sole proprietorship is simple: you just declare yourself a business. The operator of a sole proprietorship has full managerial control over the business. These are some of the advantages to forming a sole proprietorship.
But what are some of the disadvantages? One disadvantage is that the business of a sole proprietorship will end upon the death of the owner. This is potentially a disadvantage especially if the owner’s goal is to continue the business into the next generation. A sole proprietorship is limited to two sources of business funds: 1) personal assets or 2) borrowing capital. In future posts, we will discuss how other business organization structures allow for the possibility of other sources of funds, such as investments. All income earned in a sole proprietorship is taxed as personal income, with the owner paying self-employment taxes.
Another big disadvantage of a sole proprietorship is that it does not offer opportunities to shield personal assets from liabilities incurred by the business and vice versa. For example, Mike operates his farm as a sole proprietorship and one day is driving his tractor home from the field. As Mike comes over a hill, he accidentally runs an oncoming car off the road into the ditch. The driver is okay but his car is totaled. If the driver sues, potentially both Mike’s personal and business assets could be used to pay any judgment against him. In future posts, we will discuss the ability of some business organization structures to shield personal assets from liabilities incurred by the business.
As we discuss business organization structures over the coming weeks, the goal is not to get a sole proprietorship to adopt another organization structure. The goal is to help producers make informed decisions regarding the business structure that suits their needs. The best business structure will depend on the business objectives and the business plan of every agricultural operation.
Before adopting any business organization structure, please talk with your attorney and tax professional about the pros and cons of each business organization structure. Don’t have an attorney? See the online guide of the Agriculture Law Section of the Maryland State Bar Association at: http://drum.lib.umd.edu/bitstream/1903/15044/1/AgLaw%20Directory%20041414.pdf.