How To Change A Sole Proprietorship To An LLC In 6 Steps

Before you make a change from a sole proprietorship to an LLC, it’s helpful to understand the differences between the two business formations.

	Sole Proprietorship	LLC
Members	One person	One or more persons or business organizations
Taxation	Revenue and sales reflected on personal tax return	Personal assets protected from liability for business debts and obligations
Legal Entity	Considered the same legal entity as owner	Separate legal entity from members and owner
Formation	Formed automatically when you start doing business	File articles of organization with state

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Although a sole proprietorship is simpler to form, there are several reasons you’d want to change from a sole proprietorship or form your business as an LLC from the start. The following are some common reasons to choose an LLC for a small business.

You Want To Protect Your Personal Assets

With a sole proprietorship, your personal assets could be accessed to satisfy business debts and obligations. If your business is structured as an LLC, however, your personal assets aren’t considered assets of the business.

You’re Planning To Add a Business Partner

If you take on a co-owner, your business will become a general partnership automatically. With a general partnership, your liability exposure increases because you remain fully liable for business obligations, even when your partner did something without your knowledge or consent. Forming an LLC helps protect your personal assets if someone sues the business.

You Can Save Money on Taxes

Sole proprietors are self-employed and must pay their own payroll taxes, otherwise known as self-employment taxes. Some solo business owners can save on self-employment taxes by forming an LLC and electing S corporation (S-corp) taxation. These owners become employees of the LLC who only pay payroll taxes on their reasonable salary, not on the full amount of the company’s profits. Talk with an accountant for more information on LLC taxation.

You Want To Hire Employees

Although sole proprietors can hire employees, you’ll need to make sure employment and tax laws are followed. If you plan to hire full-time employees, operating as an LLC may be easier to account for employee compensation and taxes. Additionally, because you will be subject to employment laws as well, it can provide an additional layer of asset protection in the event that there is a dispute with an employee.

Step 1: Confirm Business Name

The first step to take when changing from a sole proprietorship to an LLC is to confirm that your business name is available in the state in which you plan to file articles of organization. Just because you have been using the name as a sole proprietor doesn’t mean the name is available for an LLC. To confirm name availability, do a business name search on the website of the agency responsible for business filings, which is usually the secretary of state.

Once you’ve confirmed that the name is available in your state, you should also search the United States Patent and Trademark Office (USPTO) database to confirm that the name isn’t trademarked or won’t violate any trademark laws. If you find a potential trademark conflict or your name isn’t available in your state, you may want to consult a lawyer or consider a new name for your business.

Step 2: File Articles of Organization

Once you’ve decided on a name for your LLC, file the articles of organization with the relevant state agency and pay the applicable filing fee. Articles of organization are straightforward and require basic information about the LLC, such as name and address, the purpose of the LLC, name and address of registered agent―the person who will receive legal papers for the LLC―and management structure―member-managed or manager-managed.

Step 3: Draft and Execute an LLC Operating Agreement

You will also draft and execute an LLC operating agreement. This is an agreement between LLC members that governs the rights and obligations of the members. For instance, it may specify voting rights, distribution of profits and losses, retirement and exit process and noncompete provisions for the LLC members.

Step 4: File a Form SS-4 To Obtain an EIN

Even if you have an employer identification number (EIN) for your sole proprietorship, you’ll need to file a Form SS-4 for a new EIN for the LLC. The EIN is a nine-digit number the IRS assigns to businesses for tax filing and reporting purposes. Learn more about how to file the SS-4.

Step 5: Apply for a New Bank Account

Because personal and LLC assets are separate, you’ll want to open a new bank account for the LLC business.

Step 6: Apply for Business Licenses and Permits

Depending on your industry or state laws, you may need to obtain additional business licenses and permits. An attorney or LLC service can assist with this process.

Changing from a sole proprietorship to an LLC is fairly straightforward, but there are several details to remember and regulations to navigate. If you are busy running your business, hiring an attorney or LLC service to assist with the process can save you a lot of time and energy.