Sole Proprietorship vs LLC: Liability, Taxes, and Cost

Q: Do both a sole proprietorship and an LLC pay self-employment tax?

Yes. Owners of both generally pay self-employment tax of 15.3% (12.4% Social Security up to the annual wage base plus 2.9% Medicare) on net earnings of $400 or more, reported on Schedule SE, unless the LLC elects corporate or S-corp treatment.

Q: Can I switch from a sole proprietorship to an LLC?

Yes. You form the LLC by filing articles of organization with your state, get an EIN, move business accounts and contracts to the LLC, and update licenses. The change is common as a business grows and its liability exposure increases.

Q: Which is better for a new small business?

It depends on risk. The SBA suggests a sole proprietorship suits low-risk businesses and those testing an idea, while an LLC suits medium- or higher-risk businesses and owners with personal assets to protect. Match the structure to your liability exposure.

Fact-checked by the LegalGlass editorial team against primary sources · Published Aug 6, 2026 · Last updated Aug 6, 2026

A sole proprietorship is automatic and free but leaves you personally liable for business debts; an LLC costs a state filing fee and paperwork but, per the SBA, protects you from personal liability in most instances so your home and savings are not at risk. Both are pass-through for taxes by default, so profits are taxed on your personal return and subject to self-employment tax - the LLC only changes that if it elects S-corporation treatment. Choose a sole proprietorship for low-risk testing; choose an LLC to protect personal assets.

Quick Answer

Choose sole proprietor if: Low-risk business or testing an idea; you want no cost or paperwork
Choose an LLC if: You have personal assets to protect or higher liability risk
Liability: Sole prop: personally liable · LLC: personal assets protected in most instances
Formation: Sole prop: automatic, free · LLC: file articles of organization, pay a state fee (varies)
Default taxes: Both pass-through; profit on your 1040, plus self-employment tax
SE tax: 15.3% (12.4% Social Security + 2.9% Medicare) on net earnings of $400+
Tax election: An LLC can elect S-corp status via IRS Form 2553; a sole prop cannot

Sole Proprietorship vs LLC at a Glance

A sole proprietorship and an LLC differ most on one axis - liability - and are similar on another - default taxation. The IRS defines a sole proprietor as "someone who owns an unincorporated business by themselves," while an LLC is "a business structure allowed by state statute" that is legally separate from its owners. The table sets the two side by side across the factors that usually drive the decision.

Factor	Sole proprietorship	LLC
Legal entity	No - same as the owner	Yes - separate from the owner
Personal liability	Owner personally liable for business debts	Protected from personal liability in most instances
How it forms	Automatic; no state filing	File articles of organization with the state
Formation cost	$0	State filing fee (varies by state)
Default federal tax	Pass-through; report on Schedule C	Pass-through (disregarded entity or partnership) by default
Self-employment tax	Yes, 15.3% on net earnings of $400+	Yes by default; can change with an S-corp election
Registered agent	Not required	Required in every state
Best for	Low-risk or idea-testing businesses	Medium/higher-risk owners with assets to protect

Liability: The Core Difference

Liability is where the two structures diverge sharply. A sole proprietorship offers no separation between you and the business. The SBA warns that as a sole proprietor "you can be held personally liable for the debts and obligations of the business," and Cornell's LII confirms a sole proprietorship has "no distinction between the business and its owner," with the owner assuming "all the debts of the business." If the business is sued or cannot pay a creditor, your personal assets are exposed.

An LLC is built to change that. The SBA states that "LLCs protect you from personal liability in most instances," so "your personal assets - like your vehicle, house, and savings accounts - won't be at risk" if the business incurs debt or is sued. Cornell's LII similarly describes the LLC as giving members "limited personal liability." The protection is not absolute - courts can "pierce the corporate veil" if you treat the LLC as a mere extension of yourself, mix personal and business funds, or commit fraud - but properly maintained, the LLC is the dividing line that keeps a business problem from becoming a personal one.

Taxes: Mostly the Same by Default

On taxes, the default treatment is nearly identical, which surprises many owners. A sole proprietor reports business income on Schedule C (Form 1040), Profit or Loss From Business, and pays self-employment tax on Schedule SE. A single-member LLC is, by default, a "disregarded entity" that the owner reports the same way on Schedule C; a multi-member LLC is taxed as a partnership. In every one of these defaults the business itself pays no separate income tax - profit passes through to the owners' personal returns.

Self-employment tax applies to both. Per the IRS, the self-employment tax rate is 15.3% - "12.4% for social security" plus "2.9% for Medicare" - and you must pay it if "your net earnings from self-employment…were $400 or more." Only the Social Security portion is capped: IRS Topic No. 751 states that for earnings in 2026 the Social Security wage base is $184,500, while the 2.9% Medicare portion has no cap and an extra 0.9% Additional Medicare Tax applies to wages above $200,000. You can also deduct the employer-equivalent half of SE tax in figuring adjusted gross income. See our self-employment tax guide for the mechanics.

When to Choose a Sole Proprietorship

A sole proprietorship fits when your risk is low and you value simplicity. The SBA recommends it for "low-risk businesses and owners who want to test their business idea before forming a more formal business." Because it forms automatically - the SBA notes "you're automatically considered to be a sole proprietorship if you do business activities but don't register as any other kind of business" - there is no filing fee, no articles of organization, no registered agent, and no annual entity report.

That simplicity is the whole appeal. A freelancer, tutor, weekend craft seller, or consultant testing demand can start earning immediately and report the income on Schedule C. The trade-off is that you carry full personal liability and cannot make an S-corporation election. Many owners start here and convert to an LLC once revenue, contracts, or liability exposure grow. You can still operate under a brand name by filing a DBA, though that adds no liability protection.

Be honest about the liability question before defaulting to "sole proprietor because it's easier." The IRS defines a sole proprietor as "someone who owns an unincorporated business by themselves," and that lack of incorporation is exactly what leaves personal assets exposed. If your work involves physical premises open to the public, products that could injure someone, client contracts with real financial stakes, or employees, the low administrative cost of a sole proprietorship can be outweighed by the risk it leaves on your own balance sheet. The simplicity is genuine, but it is simplicity purchased with personal exposure.

When to Choose an LLC

An LLC fits when you have something to lose or your work carries real risk. The SBA suggests the LLC for "medium- or higher-risk businesses, owners with significant personal assets they want protected, and owners who want to pay a lower tax rate than they would with a corporation." If a slip-and-fall, a product defect, an unpaid vendor, or a contract dispute could reach your home or savings, the LLC's liability shield is the reason to form one.

An LLC also unlocks a tax lever a sole proprietor does not have: it can elect to be taxed as a corporation, and specifically as an S corporation, by filing IRS Form 2553, Election by a Small Business Corporation. Under an S-corp election, owner-employees split income into wages and distributions, and self-employment tax generally does not apply to the distribution portion, which can lower total payroll-type tax once profits are high enough to justify the added payroll and filing complexity. Whether that helps depends on your numbers - see S-corp vs LLC. The cost of an LLC is a state filing fee plus ongoing obligations; because those fees vary by state, check your state's schedule and our how much does an LLC cost? guide rather than assuming a national number.

Formation Cost and Effort

The cost-and-effort gap is real but modest. A sole proprietorship costs nothing to start and requires no formation paperwork - you may still need a business license and a DBA, but there is no entity to create. An LLC requires filing articles of organization with the state, paying the state's filing fee, appointing a registered agent, and, in most states, filing periodic reports and paying any annual or franchise fee. Because every one of those dollar amounts is set state by state, we do not quote a single figure; confirm the current fee with your Secretary of State.

Both structures typically want an EIN: an LLC generally needs one, and even a sole proprietor often gets one to open a business bank account and keep their SSN off vendor paperwork. In effort terms, a sole proprietorship is start-today simple, while an LLC is a modest one-time filing plus light annual upkeep - a reasonable price for the liability line it draws.

Credibility and Growth

Structure also affects how a business is perceived and how it grows. An LLC's separate legal status, its state registration, and the "LLC" in its name can signal permanence to clients, banks, and vendors, and it makes bringing in additional members straightforward because the IRS lets an LLC have multiple members, including "individuals, corporations, other LLCs and foreign entities." A sole proprietorship, by contrast, ends with the owner and cannot add owners without becoming a partnership or LLC.

Neither structure is inherently "more legitimate" - plenty of successful businesses operate as sole proprietorships - but if you plan to raise money, add partners, sign larger contracts, or protect a growing balance sheet, the LLC's entity framework accommodates that better. This page is general information, not legal or tax advice; the right choice depends on your specific risk, income, and goals, which you should confirm with a licensed professional and the primary sources below.

A useful way to decide is to weigh three things together rather than in isolation: your liability exposure, your profit level, and your appetite for paperwork. Low exposure, low profit, and a preference for zero admin point toward a sole proprietorship. Meaningful exposure - a storefront, employees, products, or valuable personal assets - points toward an LLC even at modest profit, because the SBA's whole rationale for the LLC is that "your personal assets…won't be at risk." Higher, steady profit adds a second reason to form an LLC: the option to later elect S-corporation treatment via Form 2553, which a sole proprietor cannot do at all. The structure is not permanent, so you can start simple and convert when any of those three factors changes.

How to Switch From Sole Proprietor to LLC

Converting is common and straightforward. To move from a sole proprietorship to an LLC you generally: file articles of organization with your state and pay the fee; appoint a registered agent; obtain an EIN for the LLC (the IRS treats forming an LLC from a sole proprietorship as a new-entity event that usually needs its own EIN); open a separate business bank account; and move contracts, licenses, and any DBA to the LLC. Keep business and personal finances separate afterward to preserve the liability shield. Our how to form an LLC guide covers each step.

What is an LLC? - the entity in depth.
How to form an LLC - the step-by-step filing.
Schedule C - how sole proprietors report income.
Self-employment tax - the 15.3% both structures pay.
What is a DBA? - operating under a trade name.
S-corp vs LLC - the tax-election comparison.
How much does an LLC cost? - the fee side.
Do I need a business license? - applies to both.

Frequently Asked Questions

Is an LLC or sole proprietorship better for taxes?

By default neither saves tax: both are pass-through, so profit is taxed on your personal return and hit with self-employment tax. The difference appears only if the LLC elects S-corp treatment via Form 2553.

Does an LLC protect my personal assets and a sole proprietorship not?

Generally yes. The SBA says an LLC protects you from personal liability in most instances, while a sole proprietor can be held personally liable for the business's debts.

How much does it cost to form an LLC vs a sole proprietorship?

A sole proprietorship is free and automatic. An LLC requires filing articles of organization and paying a state fee, which varies by state, plus possible annual or franchise fees. Check your state's schedule.

Do both a sole proprietorship and an LLC pay self-employment tax?

Yes. Owners of both generally pay 15.3% self-employment tax (12.4% Social Security up to the wage base plus 2.9% Medicare) on net earnings of $400 or more, on Schedule SE, unless the LLC elects corporate treatment.

Can I switch from a sole proprietorship to an LLC?

Yes. You file articles of organization, get an EIN, move accounts and contracts to the LLC, and update licenses. The change is common as a business grows.

Which is better for a new small business?

It depends on risk. The SBA suggests a sole proprietorship for low-risk businesses and testing an idea, and an LLC for medium- or higher-risk owners with assets to protect.

Sources

U.S. SBA - Choose a business structure (sole prop personally liable; LLC protects personal assets; best-for guidance; automatic formation).
IRS - Sole proprietorships (definition; Schedule C and Schedule SE).
IRS - Limited Liability Company (LLC) (allowed by state statute; single-member disregarded, multi-member partnership; members).
IRS - Self-employment tax (15.3% = 12.4% + 2.9%; $400 threshold; half-SE-tax deduction).
IRS - Topic No. 751 (2026 Social Security wage base $184,500; Medicare has no cap; 0.9% Additional Medicare Tax over $200,000).
IRS - About Schedule C (Form 1040) ("Profit or Loss From Business (Sole Proprietorship)").
IRS - About Form 2553 (Election by a Small Business Corporation - S-corp election).
IRS - S corporations (pass-through to shareholders; elect via Form 2553).
IRS - Business structures (forms of business; structure determines the return).
IRS - About Form 8832 (Entity Classification Election for an LLC).
Cornell LII - Sole proprietorship (no distinction between business and owner; unlimited liability).
Cornell LII - Limited liability company (LLC) (limited personal liability; piercing the veil).

LegalGlass provides general information for educational purposes and is not a law firm or a substitute for advice from a licensed attorney or tax professional. This page is information, not advice. Formation fees, tax figures, and rules vary by state and change over time; verify current requirements with the SBA, the IRS, and your Secretary of State before acting.