Going into business with your partner isn’t always a bad idea. In fact, sometimes the two halves of a couple have beautifully complementary skills—especially when we’re talking real estate. There’s a reason HGTV leans so heavily on husband-and-wife pairs.
Your business certainly doesn’t need to be as linear as “the wife’s the designer, the husband’s the accountant.” Maybe your husband has a keen eye for bedroom layouts, or your wife’s eager to run the books. Either way, it might make sense to join up.
But how? In some situations, a married couple who runs a business might not want to officially form a legal entity. Under these circumstances, can a business run by two spouses qualify as a sole proprietorship?
The short answer? Yes. According to the IRS, married couples can structure their jointly-run business as a sole proprietorship. However, you have to meet specific requirements to qualify.
What is a sole proprietorship?
The IRS recognizes four different types of business structures.
- Sole proprietorships
- Limited liability companies (LLCs)
A sole proprietorship is a type of unregistered business typically operated by a single owner—the sole proprietor. This structure creates no legal distinction between the owner and the business. For tax purposes, the IRS considers you and your business one person.
When can two spouses form a sole proprietorship?
While sole proprietorships typically only have one permitted owner, the IRS allows certain married couples in business together to file this way.
For a business run by two spouses to qualify as a sole proprietorship, the following requirements must be met:
- No other employees actively engaged in the business, including children and other relatives
- Both spouses must materially engage in business operations.
If both these criteria are satisfied, each spouse must file their own Schedule C (Form 1040 or 1040-SR) to report their share of the business’s income or loss. They’ll be taxed on the profit—or the total income minus expenses.
Whether they run their business as a sole proprietorship, partnership, or something else, each member would also need to file a separate self-employment tax form.
Keep in mind that both partners will need to pay their self-employment taxes—or Social Security and Medicare taxes. The employer typically pays half these taxes. But if you work for yourself, you need to pay your half yourself.
Should we structure our business as a sole proprietorship?
Just because you can do something doesn’t always me that you should. While you are legally permitted to run a business with a spouse as a sole proprietorship, this might not be the best option for your business.
Pros and cons
The major advantage of a sole proprietorship is that the quickest and most affordable type of business entity to start up. You don’t need to register your business (and pay the registration fee), and there are very few government regulations placed on sole proprietorships. You don’t have to do a bunch of paperwork, follow onerous record-keeping requirements or corporate formalities, or file a separate tax return for your business.
Sole proprietorships also qualify for the pass-through tax deduction established in 2017. That allows you to deduct up to 20% of your net business income on your income taxes—a pretty big score.
Because of the ease and minimal investment required, many couples choose to start their business as a sole proprietorship and then change the structure to better fit their needs once they get it off the ground.
The most significant disadvantage of a sole proprietorship is that your business will not be a separate legal entity. This means that if the business fails or gets sued, you and your spouse are personally liable for any debts or judgments. Sole proprietorships offer no liability protection, so creditors can come after your personal assets to pay for business debts.
Sole proprietorship vs. partnership
One alternative you may want to consider is a partnership, which can simplify your taxes since you will only need to file a single form. Partnerships also offer a greater potential for growth than a sole proprietorship.
However, you may be subject to more government regulations and requirements, such as obtaining a tax identification number for your business.
Like sole proprietorships, partnerships are not separate legal entities, so forming a partnership will not address the personal liability issue. You and your spouse will still be on the hook for any partnership debts.
Sole proprietorship vs. LLC
If you’re looking for the sweet, sweet asset protection that sole proprietorships and partnerships fail to offer, an LLC may be your best option. Expect to jump through a few more hoops and pony up more cash to start an LLC. But an LLC acts as a 100% separate legal entity from you and your spouse. This means that your business creditors can’t go after your personal assets to cover business debts.
It also means that most litigation will be directed at the LLC itself, not you personally. If something goes wrong with your business, you generally can’t be sued in your individual capacity for standard lawsuits. This means that only the assets held by the LLC are at risk, and plaintiffs can’t touch your personal assets.
Making a decision about how to structure your business is complicated and often confusing. I recommend consulting with an attorney with significant business startup experience to make sure you are making the best choice for you and your spouse.