Can a Sole Proprietor Have Employees?

Written by SmartBiz Team | Nov 3, 2021 4:00:00 AM

Sole proprietors don’t have to run the ship alone. Here’s what you need to know about hiring help for your small business.

Can a sole proprietor hire employees?

Yes! Even though a sole proprietorship is not a separate business entity, business owners can still hire employees as long as they follow all the relevant labor and tax laws. As an employer, you’re responsible for all the bookkeeping.

Sole proprietors report their business income and expenses on their tax return, including the amount they pay their employees.

What does it mean to be a sole proprietor?

A sole proprietorship is the simplest structure when it comes to running a business. It’s not a legal entity – the term just refers to the person who owns the business and personally backs its debts. That means your business finances and liabilities are essentially your own.

Sole proprietors report all of their business income and expenses on the Schedule C of their personal IRS Form 1040 income tax return. Usually, sole proprietors run small business operations, but sometimes look to expand. That’s when hiring employees can help.

Can you hire your spouse?

Yes! As a sole proprietor, you can hire your spouse as an employee. However, when a sole proprietor hires their spouse, they must actually hire their spouse. In other words, your spouse needs to be an employee who performs essential job functions that help your business run.

Here’s what to keep in mind if you hire your spouse:

Federal taxes. When you hire your spouse, their wages will be exempt from federal unemployment tax (a.k.a. FUTA). That said, you must still deduct the three key types of employment taxes: Social Security, Medicare, and income taxes. You may also see the first two of these three tax liabilities grouped together under the label FICA taxes.
State and local taxes. In addition to the above federal taxes, you may need to deduct and remit state and local taxes from your spouse’s wages. Seek legal advice from a small business tax expert in your area to find out for sure.
Benefits. Your spouse can enroll in your sole proprietorship’s employee healthcare plan. You should also note the amount of your spouse’s healthcare benefits so you can deduct them on your tax return. Other benefits such as transportation discounts, commuting plans, and group life insurance may also be deductible. The same is true for your spouse’s travel-related business expenses.

Can you hire your children?

Yes! Just as you can hire your spouse if you’re a sole proprietor, you can hire your children too. Just keep in mind that hiring your own children, rather than someone else’s kids, doesn’t exempt your business from child labor laws.

If you’ve hired one of your children who’s under 18 years old, you don’t need to withhold and remit FICA taxes on their behalf. The same is true for FUTA taxes if your child is under 21 years old. However, you must always withhold and remit income taxes no matter your child’s age. Local and state tax experts can answer your questions about withholding and remitting these taxes for your children.

What you need to start hiring

Before you start hiring, make sure you’re prepared to carry out all our obligations as an employer. Here’s a simple checklist to help you on your way.

Employer Identification Numbers. If you’re planning to become an employer, you’ll need to register as one through the IRS and receive your Employer Identification Number, or EIN. You’ll use this unique number on your tax filings. State tax authorities may issue your business another identification number.
Licensing and Permits. As a sole proprietor, you probably know that you need to comply with state and local business licensing and permit laws. When it comes to hiring employees, make sure you know about any regulations, like local land use. You might need to relocate to a commercial zoning district to expand your operations.
Tax Obligations. As an employer, you’ll be responsible for having your employees fill out all the relevant paperwork, like the W-4, the I-9, and any insurance benefits like workers’ compensation. Once the new hire joins your team, make sure you’re withholding the proper amounts from their paychecks and filing all the appropriate tax forms on a timely basis.
Employment Forms. In addition to the above new hire forms, you may also need forms filled out to keep record of your new staff member’s employment. You should also consider preparing an employee handbook to give to your employees, who should sign it to acknowledge they’ve read and received it. You can provide any additional paperwork you feel is necessary too.
State Labor Department Registration. To start a business as a sole proprietor, you must register your doing-business-as (DBA) name. That’s because when you file a DBA but no additional business entity paperwork, your state automatically designates your business as a sole proprietorship. It’s also because you need government permission to do business under a name other than your legal name.
Business Insurance. All business owners – even those who own entities as simple and small as sole proprietorships – should obtain business insurance. Some types of business insurance, such as workers’ compensation, are legally required. Many other types of business insurance are highly recommended so you can protect your business in the event of a natural disaster or lawsuit. In the latter case, your personal assets are on the line too since sole proprietorships offer no limited liability protection.
Legal Advice. No matter how much you learn about hiring employees as a sole proprietor, you should still seek out professional legal advice. Tax and small business attorneys will know the ins and outs of state and local employment extensively, so their advice is invaluable. should keep you out of trouble. And the last thing you want as you’re getting your sole proprietorship off the ground is to immediately wind up in hot water.

Is a sole proprietorship right for you?

Although sole proprietorships are common, some small business experts believe that other types of business entities are more conducive to hiring employees. For example, let’s say an employee winds up with a work-related illness or injury and you lack worker’s compensation insurance. In that case, your employee can easily sue you, and just as importantly, they can easily win. As a sole proprietor, this situation means your personal assets are on the line.

You lose personal liability if you register your business as a limited liability company (LLC). This business structure separates your business and personal assets, reducing your risk in employee affairs like these. You’ll give up your sole proprietor status to register your business as an LLC, but other unincorporated businesses such as partnerships can be LLCs. However, S and C corporations can’t be LLCs.

The below SmartBiz Loans ® blogs can help you figure out which of the above business structures is best for you:

LLC vs. C Corporation: The Similarities and Differences. The registration process and liability protections of LLCs and C corporations are similar. However, where these two business structures differ, they do so substantially.
S Corp vs. C Corp: Advantages and Disadvantages. S and C corporations differ in four major ways. Learn how to decide which of these differences matters the most to your business.
Partnership Vs. S Corp: Differences You Should Know About. Partnerships and S corporations have similar ownership structures, and they’re both pass-through entities. Otherwise, they differ substantially, and these differences can have significant ramifications for your business.
The Biggest Advantages of a Sole Proprietorship. At the end of the day, maybe sole proprietorships are indeed the right structure for your business. This primer on how sole proprietorship structures may benefit your operations can help you decide.

What’s next?

If your small business is growing and you’re looking for a boost, get started with SmartBiz ® Advisor today to see if you’re Loan Ready! This free, online, educational tool will provide you with personalized insights and recommendations to help you strengthen your lending profile, even before you start your loan application with SmartBiz ® .

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