Starting a business is one of the most exciting things in life to experience. Whether you are doing it to follow your passion or have more time to spend doing what you like, starting a business takes guts and risks.
Before you start a company in Massachusetts, it’s important to consider the type of business you’ll set up.
A sole proprietorship is a common structure for budding entrepreneurs, especially if you don’t have a lot of experience or capital to open a full-scale business. Many businesses start as a sole prop before shifting to other types like LLCs or corporations.
But, just because a sole proprietorship is the most common business structure, doesn’t mean it is always easy to create. There are a few things you should know about starting a sole proprietorship in Massachusetts. We’ll explain more in this full guide.
What is a sole proprietorship?
The simplest and most common structure used to start a business in the United States is called a sole proprietorship. These businesses are formed when a single owner forms an unincorporated business and runs that business as an individual.
A sole proprietorship is not a separate legal entity. In other words, there is no legal distinction between the owner and the business. This means the owner is entitled to all profits raised through the business and files them as part of their individual taxes. However, this also means that any debts and losses are attributed to the individual, as well as them being implicated in any lawsuits brought against the business.
Who is a sole proprietorship best for?
If you are planning to start a business along with a partner or multiple partners, a sole proprietorship is not an option. The structure will be a good fit only if you plan to operate your business entirely independently, or with employees who report to you as the owner.
Many people choose a sole proprietorship if they need to quickly start their business or want to avoid filing fees and paperwork. In fact, if you are running the business in your own name, there is no paperwork to fill out at all to register your business. This allows the business to get up and running quickly with no friction.
A sole proprietorship comes with financial and personal liability and it may be more difficult to secure a line of credit or investments.
How to set up a sole proprietorship in Massachusetts
1. Choose your business name
Massachusetts law allows you to operate a sole proprietorship under a name other than your own. While you can use your name, most people choose a specific business name. If you want to do this, you should first search the Massachusetts Department of State’s website to see if the name you chose is taken or if something similar exists.
In Massachusetts, a business name must not:
- Match any other business name in the state
- Be misleading
- Use any certain government agency terms or abbreviations like FBI or EPA
2. File a trade name
There are several ways to file a DBA or trade name in Massachusetts, but the quickest way is by filing online. You can download the form online here, and it will cost $65 with an additional $35 if you are a non-Massachusetts resident.
You can also file a trademark if you want to protect your business and products from being copied all around the US. It typically costs around $225 to $400, depending on the nature of business, lawyer fees, and renewal fees for every 10 years.
Filing a trade name might be pricey, but it is ideal, especially if you want nationwide protection backed by federal law. Filing a trade name means no other business can file or copy the same or similar name as yours. Small businesses don’t necessarily need to file a trade name, but if your goal is to be on a national level someday and share your idea with the entire country, filing a trade name is the way to go.
3. Obtain licenses, permits, and zoning clearance if needed
Depending on the industry of your business, you may need to obtain a variety of business licenses or permits. This is managed by the Massachusetts Department of Business and Professional Regulation (DBPR), though some areas like health care are licensed by independent areas.
You should also explore local regulations like building permits and zoning clearances where appropriate.
Depending on the nature of your business, you might need different permits to legally operate. If your business has anything to do with healthcare, you will need healthcare licenses. If you are opening a construction or contracting business, you will need a building and trades license. If you are opening a bar or a liquor store, you will need a liquor license to operate.
Basically, when you are filing for a business license, you will have to explain your business and from there, you will determine the permits and licenses you need to get to legally operate. For more information, you can visit the Massachusetts licenses and permits page.
4. Obtain an Employer Identification Number (EIN)
If you’re planning a new hire, you need to obtain an EIN. This nine-digit number is issued by the IRS and used for tax purposes when you need to report wages. You can file for an EIN online through the IRS website.
If you do not have employees, you can use your Social Security Number to file taxes and are not required to have an EIN. However, some banks will require new business owners to have an EIN to open a business bank account, so you may want one anyway.
Once you have these pieces in place, your own business is ready to operate! You can begin thinking about things like marketing materials, landing your first clients, and how you want to grow over time.
How is a sole proprietorship different from an LLC or freelancing?
An LLC, or limited liability company, is another common structure used by small business owners in the United States. While an LLC can have a single owner, it can also be owned by multiple people working together. The key differentiator for an LLC is that it offers protection of the owner’s personal assets. As a legal entity, an LLC is liable for debts and legal obligations, but the owner cannot be personally liable for these items. If the business fails, the owner could file for business bankruptcy without owing business creditors their own money.
If you’re wondering about the difference between freelancing and setting up a sole prop, you’d set up a sole prop if you plan to hire other writers to work with you. A freelancer or independent contractor can’t hire people, but a sole prop can.
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What are the advantages of a sole proprietorship?
Simplified tax preparation
For the owner of a sole proprietorship, tax preparation is not much more complicated than it is for any other private citizen. In preparing personal taxes, the owner will include all profits and losses related to the business, which is calculated as a part of their income or expenses. This also means the tax rate stays at their individual rate as opposed to higher business and corporate tax rates.
Less paperwork and fees
To register most business structures, the state requires you to file your business name for inclusions on their directory and pay a fee. A sole proprietorship does not have to do this. There will be some paperwork and fees involved if you require licenses or permits, or you plan to operate under a fictitious name.
The sole proprietor of a business is responsible for everything, both good and bad. While liability is placed on that owner, they also enjoy complete control of their business. Any business decisions will be solely their responsibility, without worrying about pleasing shareholders or disagreements with a partner.
What are the cons of a sole proprietorship?
No asset separation
In a sole proprietorship, there is no legal separation between the assets of an owner and the business. While this makes things like taxes simple, it also means there is no delineation between the liabilities of an owner and their business. This means that if the business is not successful, any business debts owed will fall to the sole proprietor, and if they cannot pay, it is their personal property that will be seized. In the case of a lawsuit where money is owed, the same is true.
Single point of failure
When only one person is responsible for an entire business, it means that they are the single point of failure. If a sole proprietor passes away, becomes incapacitated, or is incarcerated, the business is usually not able to survive. While a corporation can be taken over as a legally separate entity, a sole proprietorship must be run by the owner.
Less availability of funding
Many banks and investors do not like to offer funds to sole proprietors, as they cannot gain shares of the company or be sure that debts will be repaid. Many government grants and business loans also exclude this form of business.
How are sole proprietors taxed in Massachusetts?
Income tax return
With this type of business, taxes are a part of the personal tax return of each owner. Business profit is calculated and reported on a Schedule C form which is for Profit or Loss from Small Business.
A Schedule C will calculate the income of the business, including all income and expenses, along with the costs of goods sold and costs for home-based businesses. The rest of the calculation is the net income, which is the amount of taxable business income.
This net income is entered on the Schedule C and included with other income and losses the owner (and their spouse) reports for the purpose of income taxes.
The owner then pays personal income tax on all of the income listed on their personal return, including income from business activity at the applicable rate for the year.
In the state of Massachusetts, you will need to file a Schedule C on or before April 15 every year. In addition, sole proprietors in Massachusetts also need to file a declaration of estimated tax using federal form 1040-ES and state form ES quarterly.
If you want to pay estimated taxes quarterly, you need to pay at least 80% of your annual income tax liability before filing your yearly return if you expect to have a tax due of more than $400. Alternatively, you can calculate your estimated tax payments online through MassTaxConnect.
The due dates to pay taxes every quarter are:
- On or before April 15th of the taxable year
- On or before June 15th of the taxable year
- On or before September 15th of the taxable year
- On or before January 15th of the following taxable year
As a self-employed individual, there are additional taxes necessary to pay. Based on the business’ income, the sole proprietor must pay Social Security and Medicare taxes. If the business operates at a loss, the tax is not payable, but you will not receive benefit credits for that year.
There may be other employment taxes and property taxes that are applicable.
Some types of income may not have had taxes withheld from, such as salaries, wages from employment not subject to Massachusetts withholding, unemployment compensation, dividends, interest income, gains from sales, income from trade, income from an estate or trust, lottery, and gambling winnings, rental income, and alimony.
Aside from your capital, you will need to prepare at least $300 to start a sole proprietorship in Massachusetts. For LLCs, it will cost a minimum of $500 and more for corporations. This will not include the additional licenses and other additional fees.
The state may not require a general business license for the sole proprietorship, but you still need one for the county and city you want to open your business in. Therefore, the license you need doesn’t need to be state-wide and you can get the necessary permits and licenses you need at the county and city clerk office.
Sole proprietorships can hire employees in the state of Massachusetts. However, you will need to obtain an EIN or Employer Identification Number to hire employees. The EIN is used to report taxes, open a business bank account, build business credit, and create payrolls for your employees. Even if you plan on hiring only one employee, you will still need an EIN.