Self Employed vs. Sole Proprietor: The Differences Explained

Self Employed vs. Sole Proprietor: The Differences Explained
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These days, more and more people are starting to work for themselves. Some of these people are choosing to do so by starting their own businesses and becoming sole proprietors.

Others prefer the flexibility of being self-employed but don’t want to take on running their own company. For instance, every third person would rather work as a research paper writer than start their own business. Such self-employment trend can be explained by high business taxes in some countries. This is evidenced by the fact that tens of millions of gig workers are currently working in the United States.

But when it comes to being self-employed vs. sole proprietor, what are the actual differences? And which of these kinds of employment is best for you? Luckily, we’ve researched so you can better understand how it all works.

So if you’re interested in learning more, then keep on reading, and we’ll take you through everything you need to know about the differences between self-employment and sole proprietorship.

What Is a Sole Proprietor?

A sole proprietor is a one-person business that isn’t registered as a business entity with a state. Examples of a business entity include an LLC, partnership, and corporation. Basically, a sole proprietor is the default kind of business for income tax reasons.

If you start your own business, count your personal income and expenses separately from your business income and expenses, and you don’t do anything to register the business with your state, then you’ll have to pay business taxes as a sole proprietor.

The Benefits of Being a Sole Proprietor

One of the biggest benefits of being a sole proprietor is that it’s much easier and faster to file your taxes than a corporation. You need to file an individual income tax return (IRS Form 1040) that includes your business profits and losses. Your business and individual income are considered the same, and self-employed tax implications will be applied.

There are also lower start-up expenses associated with being a sole proprietor. Many small businesses and startups tend to be restricted by limited capital. Special forms and high set-up fees are typically involved with setting up and running a corporation.

It’s also fairly common to hire a lawyer to help you form a corporation. These aren’t really things that you have to worry about as a sole proprietor.

Self Employed vs. Sole Proprietor: The Differences Explained 1

Disadvantages of a Sole Proprietorship

As a sole proprietor, you will personally be liable for all actions and debts of the business. Unlike an LLC or a corporation, your company doesn’t exist as a separate legal entity. That means that all of your assets and personal wealth will be linked to the company.

If you run a higher risk business, then it may be in your best interest to run it as a corporation. This is also why it’s so important that you get self-employed insurance as a sole proprietor.

What Is an Independent Contractor?

A self-employed person is an independent contractor who works for someone else and provides services to an employer. However, an independent contractor isn’t an employee. An independent contractor is usually a skilled or creative person.

This kind of person can be an IT professional, photographer, or even a rideshare driver.

Independent contractors are paid based on their work, either by the job or by the hour. Unless they’re subject to backup withholding, there aren’t any payroll taxes withheld from an independent contractor’s paychecks.

At the end of the year, an independent contractor will receive a 1099-MISC form. This form will show all of the income they received from the companies they worked for. This form is similar to the W-2 forms that are given to employees.

Because an independent contractor isn’t hired as an employee, there aren’t any payroll taxes deducted from payments to that worker. This means that the independent contractor is responsible for paying income taxes and self-employment taxes (Medicare and Social Security).

Can You Be Both Self Employed and a Sole Proprietor?

In one sense, both sole proprietors and independent contractors are self-employed. Both of these positions keep track of their business expenses and income. They also both file income taxes by using Schedule C forms, and they both pay self-employment taxes on their business income.

The main difference between a sole proprietor and an independent contractor boils down to how your income is received. Because of this, you can actually be both a sole proprietor and be self-employed.

For example, a sole proprietor may be given a 1099 form from a contracting employer. But they also might receive other business income from sales of a service or good. At the end of the year, all of the income will be used to determine the business’s income tax return.

Do You Have to Do Anything to Be a Sole Proprietor or Self Employed?

If you have a corporation or LLC, then you’d have to register with your state. You don’t have to do that as a sole proprietor.

And there’s also no way to register yourself as an independent contractor. Instead, you need to get income from a 1099-MISC and report it on your business tax return.

The Importance of Knowing Self Employed Vs. Sole Proprietor

Hopefully, after reading the above article, you now have a better sense of the differences between self-employed vs. sole proprietor. This information can help you better prepare your taxes and make the most out of your employment situation.

Make sure to check out the rest of our site for more helpful articles!

Bonus video: BEING SELF-EMPLOYED: Pros & Cons

Self Employed vs. Sole Proprietor: The Differences Explained FAQs

How do I know if I am a sole proprietor?

You are a sole proprietor if you own an unincorporated business by yourself

Can I have employees as a sole proprietor?

Of course, you can have employees as a sole proprietor

Do you need a business bank account for a sole proprietorship?

Yes, you need a business bank account for a sole proprietorship, You need it for taxes. salary, etc

Thank you for reading!