Starting a business comes with responsibilities. And it can seem complicated from the outside. But most states and the federal government recognize a simple business structure that strips away almost all of those complications (and costs): sole proprietorship.
Registering and running a sole proprietorship in California is a simple way to get a Business-of-One off the ground with almost no cost and no barriers to entry.
A sole proprietorship is simply a Business-of-One. One owner, you, who gets all the assets and profits and takes responsibility for the taxes. It’s the most common way to structure a business if you’re a freelancer, consultant or small business offering services to clients. But it’s not always the best business structure.
In this guide, we’ll explain exactly what it means to be a sole proprietor in California, how to set it up, what it means at tax time, and how to decide whether this or a sole proprietorship is best for your California business.
What qualifies you as a sole proprietor?
A sole proprietor is an individual operating a single-person business and owns all the assets and liabilities. There’s no separate legal entity. You and your business are one in the eyes of the law and taxes..
A sole proprietorship can only have one owner. Hence the world “sole”! If you bring in another person to co-own the business, it becomes a partnership by default.
Sole proprietors are commonly called “self-employed,” though you’re not technically an employee of the business, because the business isn’t an entity separate from you (that technicality matters at tax time). We tend to use the term “self-employed” in this case, though, because it points out a key factor of being a sole proprietor: You’re not an employee of someone else’s company.
If you sell services as a sole proprietor, you most likely work as an independent contractor with clients. That designation is important on the employer’s side, because a company has very different legal and tax obligations toward employees versus independent contractors. For your purposes — i.e. taxes and legal liabilities — the business structure is sole proprietorship
Not all sole proprietors are independent contractors, though. If you sell goods, you don’t generally have any contractual relationship with your customers, but you’re still in business as a sole proprietor.
Pros and cons of sole proprietorship in California
Operating as a sole proprietorship in California comes with benefits and drawbacks. Whether these are deal-breakers or deal-makers for you depends on your business and career goals.
Advantages of sole proprietorship
- It’s easy to set up. You don’t have to take any steps to form a sole proprietorship in California. You just start doing business. And boom! You’re a sole proprietor. That also means no annual filings or fees to maintain the business.
- Taxes are (relatively) simple. Sole proprietors pay taxes as individuals, rather than corporations. Staying up on your taxes will be a little more complex than if you were employed, because you don’t have an employer handling them for you throughout the year. But at tax time, you only have to file an individual tax return to report your business income and expenses.
- You own the business personally. When you work alone, you make all the decisions and don’t have to consult with anyone on changes or plans. You’re the supreme ruler of your business. *cue maniacal power laugh*
- You get all the profits. Everything you make in your business as a sole proprietor is yours to keep. You don’t have to pay employees or split profits with other owners. You also don’t have to pay yourself a salary. You simply pocket whatever money you bring in from sales. Though it’s wise to have a separate business bank account, even if it’s just another personal account bank account in your name.
Disadvantages of sole proprietorship
- You might need a business license. The state of California doesn’t require a business license to operate. But your city or county might. Depending on the goods or services you sell, you might also need a professional or occupational license.
- You’ll pay the “self-employment tax” on everything you earn. When you work for an employer, the company pays payroll taxes automatically out of your paycheck. In addition to pulling out what you owe, they also chip in for Medicare and Social Security taxes on your behalf. When you’re self-employed, you pay that, which amounts to a 15.3% tax on top of your regular income taxes. If you form a limited liability company (LLC) instead of a sole proprietorship, you have the option to file taxes as an S Corp, which gives you a way to structure your pay that reduces that tax burden.
- You have to pay estimated taxes quarterly to keep up with contributions throughout the year. You can’t just wait until tax time because you don’t have an employer pulling taxes from your paychecks. This doesn’t increase the amount you pay, but paying in chunks every few months can feel like a bigger blow – especially when you’re used to a smaller amount coming out of your paycheck every couple of weeks. . It’s also unpaid administrative work you have to take on as a business owner.
- You get all the liability. Owning all the assets and profits mean you also own all the liabilities. As a sole proprietor, there’s no distinction between what belongs to you versus the business. So your personal assets, like your retirement savings, home, and car, are at risk to cover debts, lawsuits or other financial obligations. Similarly, your business accounts and assets are at risk to cover personal debts.
Pro tip: You can protect your assets against business liabilities, even as a sole proprietor, by purchasing liability insurance.
How to register a sole proprietorship in California
In California, you don’t have to take special steps to register your business with the California Secretary of State if you operate as a sole proprietorship. You’re simply a sole proprietor once you begin doing business – and earning business income.
California doesn’t require a statewide business operating license.
You might have to get licenses, permits or zoning clearance from your city or county, depending on what kind of business you operate and your business activity. Most importantly, check with your local government’s tax offices to determine whether you’re required to get a business license or special tax ID to operate a business.
You might also complete these optional steps to register a business in California:
- File a fictitious business name statement. In California, a “doing business as” or “DBA” is called a fictitious business name. If you want to do business under any name other than your own legal name, you can file a fictitious name statement with your county. This’ll let you sign contracts and receive money in the business’s name and put up a more professional presence with clients or customers – but it doesn’t create a separate entity.
- Obtain an employer identification number (EIN) from the IRS. Sole proprietors aren’t required to get an EIN, the number that identifies a business for federal tax purposes. You can use your Social Security number.
A sole proprietor isn’t required to file a California withholding registration for an EDD (Employment Development Department) account number. That requirement is reserved for businesses who hire employees.
How much does it cost to start a sole proprietorship in California?
Virtually nothing! You’ll have almost no costs to start a sole proprietorship in California. You don’t have to register the business or get a license from the state, and you only need to get a business license if your locality or industry requires it.
You don’t have to pay a fee to file a fictitious business name statement, but you could pay a $10 fee to reserve the name for up to 60 days before you file.
The main costs to start a sole proprietorship business in California don’t come from the state – they’re related to the upstart needs of your type of business. For example, you might have to pay for equipment, materials, training or marketing. And since you’re leading the charge, you can control these costs.
Sole proprietor taxes in California
As a solo entrepreneur in California, you’ll pay state and federal income taxes as an individual. But it’s a little more complex than when you’re an employee.
You’re responsible for the steps employers usually cover, including:
- Paying quarterly estimated taxes. Estimated taxes are due to both the California Franchise Tax Board and the IRS four times each year: April 15, June 15, September 15, and January 15. California requirements are different from federal for each deadline: April 15 (30%), June 15 (40%), September 15 (0%), and January 15 (30%).
- Owing the self-employment tax. You’ll be responsible for the full Medicare and Social Security taxes that an employer would otherwise split with you. This amounts to 15.3% of your federal taxable income.
Report profit or loss from business. When you file income tax returns, you’ll have to fill a Schedule C – along with your IRS Form 1040. Schedule C is where you report the money you earned and spent on your business for the tax year.
FAQs about sole proprietorships in California
Can I hire employees as a sole proprietor?
You can hire W-2 employees as a sole proprietor – or you can hire and pay independent contractors. To hire employees, you’ll need an employer identification number from the IRS. Your employees must fill out a W-4 form so you can file a W-2 for them at tax time.
Most contractors have to fill out a W-9, so you can file a 1099 for them. You have to get an EIN from the IRS to pay employees, and you might prefer to use one even if you only pay contractors.
Is an LLC better than a sole proprietorship?
A sole proprietorship is a less complex type of business entity than a limited liability company (LLC), and its simplicity is its greatest advantage. An LLC – which you can form as a single owner, called a single-member LLC – comes with other advantages, including a separation of your business and personal assets and liabilities, and the ability to file taxes as an S Corp, which could mean tax savings at the state and federal level. But incorporation as an LLC comes with filing fees and requirements that might be an unnecessary burden depending on how much money the business is generating. Read more about the differences between an LLC and sole proprietorship.
How much do sole proprietors pay in taxes in California?
Sole proprietors pay the same taxes in California as individuals, because you pay income tax as an individual. Your income tax rate is based on your tax bracket – determined by your total income from your business and other sources. However, sole proprietors are also responsible for the self-employment tax, a 15.3% additional federal tax on income. Employees, by comparison, pay only 7.65% tax, while employers would pay the other 7.65%.
Can a sole proprietor write off a vehicle?
If you use a vehicle for work, you can deduct vehicle expenses from your taxable income, regardless of the structure of your business (sole proprietorship, LLC, partnership, etc.). You can only deduct costs related to your business. If you use a car for business and personal use, you have to divide expenses based on mileage for each. As of 2021, the standard mileage rate for a federal tax deduction was 56 cents per mile ($0.56). You can also deduct other vehicle costs, including depreciation, registration, loan interest, insurance and lease payments.
TL;DR: It’s easy to start a sole proprietorship in California
Starting a sole proprietorship in California is as easy as simply doing business. Making money for goods and services you’re providing? Congrats! You’re a sole proprietor! You don’t have to register the business with the state or obtain any state license unless you’re in an industry that requires professional or occupational licensing.
A sole proprietorship is a smart business structure if you want to run a simple business providing services like consulting, writing, design or marketing. It’s best for businesses without employees or contractors, though you’re still allowed to hire either as a sole proprietor.
Sole proprietorship probably isn’t a good fit for you if you run a business with high potential for liability – like if you hire employees, operate in a hazardous industry like construction, or perform services that leave you open to liability like medicine, finance, or law.
Operating as a sole proprietorship could mean missing out on tax benefits. If you tend to earn more than a reasonable compensation in your industry – often when you’re earning upwards of $80,000 a year – forming an LLC and then electing to be taxed as an S Corp could give you access to significant tax savings.
Stephen has dedicated his career as an attorney and author to writing useful, authoritative and recognized guides on taxes and business law for small businesses, entrepreneurs, independent contractors, and freelancers. He is the author of over 20 books and hundreds of articles and has been quoted in The New York Times, Wall Street Journal, Chicago Tribune, and many other publications. Among his books are Deduct It! Lower Your Small Business Taxes, Working with Independent Contractors, and Working for Yourself: Law and Taxes for Independent Contractors, Freelancers & Consultants.