Budding entrepreneurs consider setting up sole proprietorships because they’re simple to establish and a lot of business opportunities are associated with this business structure in Illinois.
However, Illinois also has a few unique aspects about establishing a sole prop business. It pays to know how to maneuver through state laws and where to go if you have questions. We’ve created a guide to help you through the process that has the basics of starting a sole proprietorship business in Illinois.
What is a sole proprietorship?
A sole proprietorship is a business structure in which the business is unincorporated and has a single owner. For tax and legal purposes, the business and the owner are considered the same entity. This is the simplest version of a business that one can form, and many people who freelance or sell goods are operating as a sole proprietor without realizing it. Because there is no separation between the business and the owner, the owner is personally responsible for all debts and litigation that the business is named in.
Who is a sole proprietorship best for?
By definition, a sole proprietorship is an unincorporated business with a single owner. Anyone looking to form a partnership or have multiple owners should choose a different structure. A sole proprietorship will be a good fit for someone looking to maintain total ownership of their business who is willing to take on the liability associated.
Because a sole proprietorship is simple to start and requires no fees or paperwork, it can be a good option for anyone who needs to get a business up and running quickly. It can also offer a good test case for a business idea without any upfront requirements.
It can be more difficult to get funding and credit in a sole proprietorship, so if investments are required, having capital at the start can make this structure easier.
How to set up a sole proprietorship in Illinois
1. Choose your business name
Illinois 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 Illinois Secretary of State website to see if the name you chose is taken or if something similar exists.
In Illinois, 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
Illinois has a law called the Illinois Assumed Name Act that addresses those who are operating a business as a sole prop, professional service corporation, or general partnership under a name different from the legal name of the owner. Under the act, sole props, professional service corporations, and general partnerships must register their trade name with the local clerk’s office.
Procedures and fees may be different in every county. The state website has a guide with a list of clerks to help you. Cook County, the state’s most populated county, allows sole prop, general partnership, and professional service corporation owners to register their assumed name online. The application fee is $50.
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 Illinois.gov, 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.
Sole props in Illinois need a Certificate of Registration or license to sell any taxable goods or services. Those in some specific professions are also required to have a professional license. These include people like hairstylists and barbers, massage therapists, and chiropractors. It also includes pest control applicators, auctioneers, bartenders, and security alarm installers. The state licensing website has more information and ways to register online.
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! With a solid business plan, you can begin doing business, generate marketing materials, land your first clients, and plan for growth.
How is a sole proprietorship different from an LLC or freelancing?
Anyone who does work on a freelance basis can technically be considered a sole proprietor of their business. They will pay taxes individually and usually operate under their own name, assuming liability associated with their work. However, there are a number of ways the two can differ.
A sole proprietor is able to hire employees and is responsible for employment taxes, while a freelancer usually cannot do this without filing paperwork and effectively becoming a sole proprietor. Freelancers also do not have to adhere to the same local regulations that a business might and cannot purchase the same types of insurance. An independent contractor is considered somebody who has a relationship with external clients, while a sole proprietorship operates as a small business.
In contrast, an LLC is another form of business. An LLC, or limited liability company, must file articles of organization and register with their state. This also protects small business owners (or owners, as an LLC can have multiple) from personal liability, and the business is treated as a separate legal entity for tax purposes. Because of this separation, LLCs are often given larger lines of credit or more likely to attract future investments in times of growth.
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What are the advantages of a sole proprietorship?
Fast and inexpensive startup
Unlike other business structures, a sole proprietorship does not have to register with the state or pay the associated fees. If a fictitious name is being used, there may be a registration process for the trade name, but it is optional. This lack of paperwork and cost means that you can start a sole proprietorship almost immediately and without bureaucracy.
In a sole proprietorship, all profits and losses for the business are included in the owner’s personal income tax returns. This leaves the owner responsible for state, local, and federal taxes that include their business, but they are not subject to corporate tax rates or specific business taxes. Additionally, being self-employed offers tax credits and benefits to the owner.
Complete control over your business
The sole proprietor of a business has complete control and is responsible for all decision-making within the business. With no partners or shareholders, you are free to run your business as you choose and take risks without implicating others.
What are the cons of a sole proprietorship?
Because the owner and the business are the same in a sole proprietorship, it can leave the owner vulnerable in multiple ways. Any business debts are also considered a personal debt, and any lawsuits against the business also implicate the owner. If these result in collections or seizures, the owner’s personal property can be taken in order to meet the obligations of the business.
Difficulty with funding
If a sole proprietor wants to raise capital, they may have fewer options to do so. Without stock in the business to sell, investors are less likely to get involved. Banks may also be less inclined to offer credit because the owner will be responsible for the business loans in the end.
Risks of hiring employees
As long as they have a valid Employer Identification Number, a sole proprietor is able to hire employees as needed. However, if any legal issues arise related to an employee, it could put a strain on the owner as their personal assets are on the line for lawsuits and other costs.
How are sole proprietors taxed in Illinois?
With this type of business entity, 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 income tax on all of the income listed on their personal return, including income from business activity at the applicable rate for the year.
Illinois is a great place for sole prop owners in terms of income taxes. It has a flat rate tax of 4.95% so you can earn and not suffer from being placed in a higher tax bracket for state taxes. It was reduced from a 5.9% rate in 2019, so it’s a good environment for startups.
As a self-employed individual, there are additional taxes necessary to pay. Based on the business’ income, the sole proprietorship 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.
Illinois has a sales tax rate of 6.25% that is paid monthly. Local cities and counties can also implement their own local option sales tax and that can raise the total tax rate as high as 4.75%. Sole prop owners are also responsible for paying property tax.
Unfortunately, Illinois ranks second in the country for high property taxes with a statewide average of 2.27%. That is nearly double that of other states. However, Illinois is forbidden by the state constitution to tax personal property, like cars, boats, and business equipment. Other states tax both real property and personal property.
A sole prop must also have an Employment Identification Number (EIN) if they hire one or more employees and must also file any pension or excise tax returns on alcohol, tobacco, or firearms.
You can register for an occupational license by applying online, applying in person at the Department of Revenue or by mail. Mailed applications should be sent to the Central Registration Division, Illinois Department of Revenue, P.O. Box 19030, Springfield, IL 62794-9030. There isn’t a fee for an occupational license.
Yes, the state requires anyone selling taxable goods or services to have a business license. Most businesses are required to register with the Illinois Department of Revenue.
It normally takes the state one to two days to process a business registration request.
You can register electronically for free through MyTax Illinois, complete a business registration form or visit a local Department of Revenue office. Be sure to check to see if offices are open and what COVID restrictions are in place before visiting.
You can visit MyTax Illinois to find any tax form you need for your sole prop or other business.
Sole proprietorship registrations are handled through the Illinois Department of Revenue. Business licenses are handled by local clerks of court in the county where you will be headquartering your business.
Yes, being a sole proprietor is considered to be the same as being self-employed in Illinois.
No, you don’t have to have an assumed business name in Illinois if you don’t want to do that. You can operate your sole prop under your legal name. However, having an assumed or fictitious name to do business may give you a professional edge for marketing.
The general rule is to set between 25-30% aside for taxes if you are operating a sole proprietorship. That should cover both federal, state, and local taxes.