If you currently own a sole proprietorship and wonder whether you can change it to a limited liability company (LLC), the simple answer is yes.
A deeper question underlying this simple query involves when a change from a sole proprietorship to an LLC might be advisable. You might also want to know what procedures to follow to make the change from a sole proprietorship to an LLC, as well as what your new responsibilities include as the owner of an LLC.
Why Change a Sole Proprietorship to an LLC
One of an LLC's main benefits is that this type of business entity offers its owners limited liability. By separating your personal assets from the business, you protect your own property and ensure that the business's debts remain those of the LLC. That is, you are not personally liable for them.
Because of the limited liability concept, you may consider switching from a sole proprietorship to an LLC if you're concerned about your personal property being subject to a lawsuit against your business. If you do not want your personal car or bank account to be potentially at risk in lawsuits against your business, for example, an LLC could be a better option.
That said, not every sole proprietorship can elect to become an LLC. In some states, certain licensed professionals—such as attorneys—are prohibited from forming LLCs and instead must organize their businesses as different types of entities. In other states, although those professionals may form an LLC, their personal property may not be protected from malpractice claims.
How to Change a Sole Proprietorship to an LLC
As individual states govern business entities, you must follow your state's procedures for changing a sole proprietorship to an LLC. Generally speaking, the process requires filing the same paperwork as anyone else creating a new LLC.
You may have to cancel your sole proprietorship's trade name or Doing Business As (DBA) before you can form an LLC. You may or may not be able to keep your same name depending on state naming laws.
Like any LLC, you must select a registered agent, file articles of organization, and draft an operating agreement. To get the business set up for taxes, you must apply for an Employer Identification Number (EIN).
Beyond that, you must be sure that you update all of your sole proprietorship bank accounts, contracts, and any registrations, such as trademarks and business licenses and permits, so that your new enterprise is named in them.
Responsibilities as an LLC Owner
When changing from a sole proprietorship to an LLC, you must examine existing contracts carefully. Depending on the contractual language, you may or may not be able to assign the responsibilities you had as a sole proprietor to the LLC. If the contract doesn't allow for this, you must discuss the arrangement with the other party.
Your responsibilities as an LLC owner to the LLC itself should be detailed in the LLC's operating agreement. Overall, though, as an owner, you have a duty of care that requires you to act in good faith and exercise reasonable care in carrying out your responsibilities concerning the LLC.
You must treat the LLC as a separate entity—including keeping all personal assets separate—otherwise, you risk losing the protection of limited liability.
Changing from a sole proprietorship to an LLC may be a smart move for your business as well as for the protection of your personal assets. Still, you should be aware that you could end up paying more in taxes and fees with an LLC than you would have if you had stayed a sole proprietor. Because there are so many individualized considerations involved in making this decision, professional legal advice is recommended.