The most common business structure in America is also the riskiest. According to the IRS, sole proprietorships account for about 73 percent of all American businesses. Most of them were never formally “started” – if you earn income from freelance work, consulting, or selling goods without creating a separate entity, you are a sole proprietor by default. No paperwork required. No filing fee. And there are no legal barriers between your business loan and your personal bank account.
The option most small business owners ultimately consider is a limited liability company. An LLC creates a legal wall between you and your business. It costs some to set up – filing fees range from $35 to $500 depending on the state – and requires a modest amount of ongoing maintenance. Whether that tradeoff is worth it depends on your income, your industry, and how much personal risk you’re willing to take. LLCBDWhich tracks LLC formation requirements, costs, and compliance rules in all 50 US states, publishing a more comprehensive breakdown of how much it actually costs to form and maintain each structure. The comparison below is based on that data, along with IRS guidance and state-level filings.
What a Sole Proprietorship Really Is (and What It Isn’t)
A sole proprietorship is not something you create. This exists when you begin earning business income without creating a separate legal entity. A graphic designer is a sole proprietor billing clients through PayPal. This Etsy seller is a sole proprietor shipping handmade jewelry. An advisor invoicing through his personal bank account is a sole proprietor. The IRS does not require registration. You report the business income on Schedule C of your individual Form 1040, pay self-employment tax (15.3 percent on net earnings up to a Social Security wage base of $176,100 in 2025), and that’s it.
Simplicity is real. The risk is also real. Sole proprietorship offers zero liability protection. If a customer sues your business, they are suing you personally. If the business takes on debt and can’t repay, creditors can go after your house, car, savings – anything in your name. There is no legal difference between you and the business. This is fine for a low-risk side project. This is a serious problem for anyone earning a meaningful income or working in a field where lawsuits occur.
What changes LLC
An LLC is a separate legal entity. You create it by filing articles of organization with your state’s Secretary of State and paying a one-time filing fee. Once activated, the LLC owns the business. You own the LLC. That separation is the whole point.
If the business is sued, the LLC’s assets are at risk – not yours personally. If the business owes money, creditors generally can’t go after your personal accounts, your home, or your retirement savings. This protection is not complete; Courts may “pierce the veil” if you mix personal and business funds or treat the LLC as a shell. But properly maintained, an LLC provides a layer of protection that a sole proprietorship cannot provide.
For Indian professionals and NRIs who freelance for US clients or run export-oriented businesses, the difference matters in practical terms. US customers are increasingly requiring vendors to hold business insurance before signing a contract or acting as a formal entity. An LLC indicates legality. A sole proprietorship, appropriately or not, prompts a “side hustle.”
The tax gap is smaller than you think (with one big exception)
Here’s what surprises most people: By default, single-member LLCs are taxed the same as sole proprietorships. The IRS treats it as a “disregarded entity.” You report the income on Schedule C, you pay self-employment tax on the net profit, and your effective tax burden is the same. Forming an LLC doesn’t save you a penny or a dollar in taxes.
The exception is S corporation elections. An LLC can file IRS Form 2553 to be taxed as an S Corp. Under this election, you pay yourself a “fair salary” and take the remaining profits as distributions. Salary is subject to self-employment tax. There is no delivery. In a business making $120,000 in net profits, paying yourself a salary of $70,000 and taking $50,000 as distributions saves about $7,650 per year in self-employment taxes. Over five years, that’s $38,250.
The catch: The S Corp election adds real complexity. You’ll need to run payroll, file quarterly payroll tax returns, and prepare a separate corporate tax return (Form 1120-S). Accountant fees typically increase by $1,000 to $3,000 per year. The choice only makes financial sense if net profits consistently exceed about $50,000 to $60,000 annually – below that threshold, payroll costs outweigh the tax savings.
Both structures also qualify for the qualified business income (QBI) deduction under Section 199A: a 20 percent deduction on qualified business income, subject to income limits ($197,300 for single filers, $394,600 for married filing jointly in 2025). This deduction applies equally to sole proprietors and LLC owners. This is not a reason to choose one structure over the other.
What does each structure actually cost?
It costs nothing to start a sole proprietorship and it costs nothing to maintain it at the state level. You may need a local business license depending on your city or county, but there are no state filing fees, no annual reports, and no registered agent required.
Forming an LLC costs $35 to $500 depending on the state. Kentucky is the cheapest at $40 ( ₹3,400). Massachusetts is the most expensive, with $500 ( ₹42,000). Most states fall between $50 and $150. After formation, most states require annual or biennial reports ranging from $0 (New Mexico, Arizona, Ohio) to $500 (Massachusetts) or the infamous $800 California franchise tax. If you don’t live in the state where the LLC is formed, add $100 to $300 annually for a registered agent.
For a practical five-year comparison: A sole proprietorship in any state costs $0 in state fees. The total cost of a New Mexico LLC over five years is $50. The cost of a California LLC is approximately $4,070. The cost of an LLC is completely dependent on the state, which is why the state you choose matters as much as the structure.
When sole proprietorship is the right decision
Not every business needs an LLC. If you’re testing a side project, earning a modest income from a low-risk activity, and have few personal assets to protect, a sole proprietorship is fine. The overhead is zero, tax filing is simple, and you can convert to an LLC later without losing anything.
Sole proprietorship also makes sense for very early-stage enterprises where the founder is not sure the business will survive. Paying $200 in filing fees and setting up a registered agent for a project that may not last three months is a waste of money. Start slow, validate the idea, and formalize the structure once revenue is consistent.
When should you form an LLC instead?
The trigger points are clear. If your business makes more than $30,000 to $40,000 per year, the liability protection alone justifies the cost. If you’re in a profession where clients could sue – consulting, design, development, coaching, anything involving deliverables – then an LLC is a basic precaution. If you have personal assets worth protecting – home, savings, investments – operating without liability protection is gambling.
For Indian freelancers and IT professionals who bill US clients, an LLC also offers a practical benefit: You can open a US business bank account, accept ACH payments and invoice through a formal entity. This eliminates the wire transfer friction that many cross-border freelancers deal with. Fintech banks like Mercury and Relay serve non-resident LLC owners, making the process accessible without an in-person US trip.
If net profits consistently exceed $50,000 to $60,000, also consider the S Corp election. Self-employment tax savings can be substantial, and the additional accounting costs are a fraction of your savings. A Comparison of LLC Formation Services And state-specific requirements can help you evaluate costs before filing.
mistakes that cost the most
The most expensive mistake is not choosing the wrong structure. This is creating an LLC and then treating it like a sole proprietorship. If you run personal expenses through the business account, omit the operating agreement, or never file your annual report, you are inviting the court to ignore the LLC’s liability protections entirely. The legal term is “piercing the corporate veil” and it happens more often than founders might expect.
The second most expensive mistake is to build into a “cheap” position when you are actually operating in an expensive position. A Wyoming LLC sounds attractive until you realize that California, where you actually have clients and an office, still requires you to register as a foreign LLC and pay its $800 franchise tax. You have now added a state, not avoided one.
For non-resident founders, the most common mistake is ignoring US tax compliance. A foreign-owned single-member LLC must file Form 5472 annually, reporting transactions between the LLC and its foreign owner. The penalty for failure to file is $25,000 per year. Indian founders should additionally comply with RBI’s foreign direct investment reporting under FEMA, and understand how the India-US DTAA applies to their specific income streams before the first invoice is sent.
bottom line
Sole proprietorships are free, simple, and great for low-stakes enterprises. An LLC costs money, requires paperwork, and protects you if something goes wrong. Once you’re honest about the risks the choice doesn’t have to be complicated. If a lawsuit or bad debt could materially damage your personal finances, the $50 to $200 it takes to form an LLC in most states isn’t an expense — it’s insurance.
A growing number of Indian entrepreneurs building US-facing businesses – SaaS founders, IT consultants, e-commerce operators – are choosing LLCs in a big way, and with good reason. This structure provides the liability protection, tax flexibility and reliability that US customers and payment processors expect. For everyone else, the question is simple: What will you lose if something goes wrong, and aren’t the costs of an LLC worth figuring out?
Note to readers: This article is part of HT’s paid Consumer Connect initiative and has been independently created by the brand. HT does not take any editorial responsibility for the content, including its accuracy, completeness, or any errors or omissions. Readers are advised to independently verify all information.
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