A sole proprietorship is a business owned by one individual. The owner of a sole proprietorship is called ‘proprietor’ or ‘sole trader’ who takes all the profits or losses of the business and is liable for all its obligations.
A sole proprietorship is the oldest form of business organization. It is also known by other names such as Single Proprietorship, Individual Proprietorship, Sole Trader Business, etc.
You may be a sole proprietor of business without knowing it!
An individual may do house repair work on a part-time basis or be a full-time barber who operates on his own. Both are sole proprietorships.
This form of business is used by small businesses because it is easy to start and cheap to organize.
What is required is that an individual decides about the type of business to be started and arranges the necessary capital. Required capital may be mobilized from his own savings, or maybe borrowed from friends and relatives.
The business may be carried either in a portion of his own residence or in a rented building. The person generally manages the business on his own. He may also take the help of his family members or employ some persons, if necessary.
Sole Proprietorship examples include businesses providing direct services, e.g., small retailers, hairdressing saloons, tailors, restaurants, etc., and professional services, e.g., doctors, lawyers, etc. depend for their success upon personal attention to customers and the personal knowledge or skill of the owner.
A sole proprietorship is basically the business arm of an individual who decides not to do business as a separate legal entity i.e company.
As the sole owner (proprietor), you have unlimited liability, meaning that if your business can’t pay all its liabilities, the creditors to whom your business owes money can come after your personal assets.
There is no separate registration procedure for proprietorships. All you need is a government registration relevant to your business.
If you’re selling goods online, a proprietor would only need a sales tax registration. Therefore, starting up as a sole proprietor is relatively easy.
Characteristics of proprietorships
1. Single owner
There is only one owner of the business. There are no associates or partners. He invests his own money or borrows from his friends and relatives.
2. No separate existence
A sole proprietorship is not a separate legal entity apart from the owner. The proprietor and the business entity are one and the same.
3. Risk and Reward
Since there are no partners, all the profits are enjoyed by the sole proprietor and all losses in the business are borne by the proprietor himself.
4. No limitation on legal liability
The owner is personally liable for any debts or legal claims against the business. Thus, creditors can take the personal assets of the owner, if the business debts exceed the owner’s investment in the company Not taxable.
Advantages of sole proprietorship
1. Simple to form
The sole proprietorship is the simplest type of business structure. It is easy to form and operate. It does not require any legal registration. An individual can operate this business under the name other than their own name.
2. Quick Decisions
The proprietor alone takes all the decisions pertaining to the business. Since there are no partners, he is not required to consult anybody. This enables the proprietor to take quick decisions. Ownership and management are vested in the same person. Some persons may be employed to help the owner but ultimate control lies with him.
3. Share of Profit
If the business generates profits, the sole owner need not share it, just like in case of partnership and company.
Since the whole business is handled by the proprietor his business secrets are known to him only. He is not bound to publish his accounts. Therefore, the degree of secrecy is the highest in this form of organization.
5. Easy Dissolution
Since there are no co-owners or partners, there is no scope for the difference of opinion in the case of the dissolution of the business. The proprietor is free to withdraw from the business or to sell it at any time he wants.
Disadvantages over other business forms
1. Limited life
When the owner dies or retires, the proprietorship ceases to exist.
2. Limited Resources
Limited ability to raise capital (funds). The ability to raise capital (funds) is limited to what the owner can provide from personal resources or through borrowing.
3. Unlimited personal liability
The sole proprietor has unlimited personal liability. In case the assets are insufficient to meets their debts, the personal property of the proprietor can be attached.
4. Share of loss
If the business has a loss, the sole proprietor suffers all of it.
Cases in which proprietorship is suitable
In spite of some disadvantages it is suitable in the following cases:
1. Low capital investment
Businesses that require low capital investment is suitable under sole proprietorship concerns. Therefore, small-scale units or units which do not involve production on a large-scale can be conveniently carried on under sole proprietorship.
2. Requirement of personal touch
Businesses requiring personal touch and supervision like the service sector- transport, advertising, etc. are best suited under sole proprietorship. The owner can develop direct contact with the ultimate consumers to market the products.
3. Involves personal service
Businesses engaged in the rendering of personal services like solicitors, doctors, architects, chartered accountants, etc. are suitable under sole proprietorship. Individually, he can extend all required services to the parties.
Accounting of Sole Proprietorship
You know a sole proprietorship is not a separate legal entity but for accounting purposes, a business organization is a separate entity, distinct not only from its creditors and customers but also from its owners.
It should have its own set of financial records, and its records and reports should refer only to its own affairs.
The primary financial statements of a proprietorship are the income statement, the statement of owner’s equity, the balance sheet, and the statement of cash flows. The order in which the financial statements are prepared.
- Income statement
- Statement of owner’s equity
- Balance sheet
- Statement of cash flows