Comparing an LLC to a Sole Proprietorship and a Partnership

Comparing an LLC to a Sole Proprietorship and a Partnership

The following section outlines the advantages and disadvantages of an LLC in comparison to a sole proprietorship and partnership.

Advantages of an LLC Compared to a Sole Proprietorship and a Partnership

Owners are Not Personally Responsible for Company Debts

This is the most important attribute of an LLC. In a sole proprietorship and partnership, the owners are personally responsible for business debts. If the assets of the sole proprietorship or partnership cannot satisfy the debt, creditors can go after each owner's personal bank account, house, etc., to make up the difference. By contrast, if an LLC runs out of funds, the owners are usually not liable.

Please note that under certain circumstances, an individual member may be liable for the debts of an LLC. These circumstances include:

  • If a member personally guarantees a debt.
  • If personal funds are intermingled with LLC funds.
  • If the LLC has minimal capitalization or insurance.
  • If the LLC fails to pay state taxes or otherwise violates state law (like defrauding consumers).

Easier for An LLC to Raise Money

An LLC has many avenues to raise capital. It can admit new members by selling membership interests, and it can create new classes of membership interests with different voting or profit characteristics. Plus, investors will be assured that they are not personally liable for company debts.

Ease of Ownership Transfer

Ownership interests in a limited liability company may generally be sold to third parties without disturbing the continued operation of the business. The business of a sole proprietorship or partnership, on the other hand, cannot be sold whole. Instead, each of its assets, licenses and permits must be individually transferred. New bank accounts and tax identification numbers are also required.

Disadvantages of an LLC Compared to a Sole Proprietorship and a Partnership

Cost of Set Up

It costs more to start an LLC and run it than a sole proprietorship or partnership. For example, there are the initial formation fees, filing fees and annual state fees. These costs are partially offset by lower insurance costs.

Formal Organization

Although an LLC requires fewer formalities than a corporation, there is still more paperwork involved than a sole proprietorship or partnership. A sole proprietorship or partnership can open and operate without any formal organizing procedures - not even a handwritten agreement.

Separate Records

In order to maintain the separate form of the LLC and maintain the liability protection of its members, LLC owners must carefully maintain separate records and keep personal affairs separate from the LLC's business. Even more importantly, the LLC's money should never be intermingled with personal money.

LegalZoom can help you start a partnership or an LLC. Also,  if you’re going to do business as a sole proprietorship, we can help you apply for an official business name (called a DBA). Get started by answering questions about your business in our questionnaire, we check your answers for completeness and consistency, and then file the paperwork with the appropriate government agency on your behalf.

  • Limited Liability Company: Introduction
    For hundreds of years, the three choices of business entity were sole proprietorship, partnership and corporation. However, the LLC was invented in 1977 by the state of Wyoming to fill a new need—businesses that wanted to be managed and taxed like partnerships, but protected from liability like a...
    read more
  • Common LLC Terms
    Before forming an LLC, you should be familiar with these common terms used when discussing LLCs. Member A member is a person who owns an interest in a limited liability company. Unless the articles of organization provide otherwise, the members also manage the LLC. Managing Member A managing member...
    read more
  • Definition of a Limited Liability Company or LLC
    Like a corporation, a limited liability company or "LLC," is a separate and distinct legal entity. This means that an LLC can obtain a tax identification number, open a bank account and do business, all under its own name. The primary advantage of an LLC is that its owners, known as members, have "...
    read more
  • Ownership Percentages
    LLC ownership can be expressed in two ways: (1) by percentage; and (2) by membership units, which are similar to shares of stock in a corporation. In either case, ownership confers the right to vote and the right to share in profits.
    read more
  • LLC Advantages and Disadvantages: Overview
    Before forming a limited liability company, the business owner or prospective business owner should become familiar with the advantages and disadvantages of an LLC and how they compare to those of other business entities.
    read more
  • LLCs Compared to Corporations
    LLCs are similar to corporations in that they allow you to start a business without worrying about unlimited liability. However, in creating the LLC, state laws provide some advantages over corporations. Advantages of an LLC
    read more