If you’re an on-demand, temporary, or gig economy worker, there’s an important decision you need to make — should you legally form a business for your work? There’s no one, simple answer, but we’ll give you the lowdown to help you make the right choice. Disclaimer: this should not be construed as legal or financial advice.
Why Should You Form a Business as a Gig Economy Worker?
If you’re working for yourself, you’re self-employed, which means you’re both an employer and an employee. In other words, you’re already a business. There’s some complexity and subtlety here though, which is, should you choose to form a different type of business?
There are several advantages and disadvantages, depending on the type of business you choose to form. Let’s get into it.
What Types of Business Can Gig Economy Workers Choose to Create?
In US law, and from the IRS’s viewpoint, there are several types of business:
- Sole proprietor — you work for yourself and don’t have any special legal protection or need to keep separate bank accounts, special business records, or have filing or formation needs.
- Partnership — this business happens when two or more sole proprietors join together to create a larger business, and is subject to similar rules to a sole proprietor business.
- Legally Limited Company — known as an LLC, this is the easiest type of “formal” business to create. It’s light on rules and regulations, and does give you some liability protection.
- Corporation — this is a type of structure, often known as a C Corp, S Corp, or B Corp, typically meant for slightly larger businesses and distinguished by the way taxes are paid.
There are many more, such as Nonprofits, Trusts, and Associations, etc, but to simplify things, most gig economy workers will be best off as either a sole proprietor or by forming an LLC, so those are the two business types we’ll look into in more depth.
The Sole Proprietor Business for Gig Economy Workers
How do I form a Sole Proprietor Business?
If you’re self-employed (as gig economy workers are), then you’re already a sole proprietor business, unless you file paperwork that says otherwise. That means you don’t need to do anything to be a sole proprietor business, other than inform the IRS that you’re working for yourself.
What Are the Advantages of a Sole Proprietor Business?
There are several advantages to being a sole proprietor instead of an LLC:
- You don’t need to register with the state or file any paperwork.
- You don’t need to pay any money to form a business.
- You don’t need to file any annual reports or pay a fee to do so.
- You don’t need to keep a separate bank account for business income and expenses.
- Taxes are very simple.
What Are the Disadvantages of a Sole Proprietor Business?
A sole proprietorship does have a few disadvantages:
- You’re “personally liable” for everything your business does, so if your business incurs debts, your personal assets can be seized.
- Banks and other organizations may not take you as seriously as they would an LLC.
- You can’t transfer ownership of the business, although this probably won’t impact you if you’re a gig economy worker.
Taxation for the Sole Proprietor
Taxes are very simple for a sole proprietor. Any earnings get reported on your personal income tax filing. You can deduct expenses incurred by your business, and you’ll pay tax on any profits. You will need to pay self-employment, federal, and state taxes. You will also need to pay estimated taxes on a quarterly basis. For more information, speak to your accountant.
If you want to keep things simple, don’t mind being liable for your business debts, don’t want to pay a formation and yearly fee, and want to make taxes easy, a sole proprietorship may be an ideal choice for you.
Costs of Being a Sole Proprietor
There are no additional costs to being a sole proprietor, other than taxes, accountant fees, and business expenses.
The Legally Limited Company for Gig Economy Workers
Your second good option is to form an LLC. This does require you filing some formal paperwork with your Secretary of State, but this is simple and easy to do. There are many company formation services like Incfile or LegalZoom who can help you create an LLC online and file the paperwork on your behalf. It should be noted that forming and running an LLC is a bit more complicated than a sole proprietorship.
What Are the Advantages of an LLC?
There are several advantages to being a sole proprietor instead of an LLC:
- You have “Limited Liability.” This means that you’re not necessarily personally liable for the debts of your business. This probably won’t be an issue for most gig economy workers, but it’s worth pointing out.
- Banks and other organizations may take you more seriously than a sole proprietor.
- You could transfer ownership at some point in the future, especially if you expand your LLC in the future to do something other than gig economy work.
- Taxes are still relatively simple, although they are slightly more complicated than for a sole proprietor.
What Are the Disadvantages of an LLC?
An LLC does have a few disadvantages:
- You will need to file paperwork with the state (normally known as “Articles of Organization”) to create your LLC.
- You will typically need to file an annual report and pay a fee to the state to continue running your LLC.
- You will need a separate business bank account and will need to keep your business assets separate from your personal ones — this will require more detailed accounting and record keeping.
- Accountancy can be more expensive as the tax returns are slightly more complex.
Taxation for the LLC
Taxes for an LLC are a little more complicated than for a sole proprietor. Any profits earned by your business “flow through” to your personal tax return, where you pay self employment, federal, and state income tax.
There is a big advantage for your taxes though, created by the tax bill in early 2018. Up to 20% of your profits may be tax free. This means that if you earn $25,000 through your business after expenses, up to $5,000 of that may not be taxable. If you’re paying 20% tax, that could reduce your tax bill by $1,000 a year. As always, speak to your accountant.
Costs of an LLC
There are several costs for forming and running an LLC, these include:
- Bank charges for having a business account.
- Accountant fees for business and personal tax returns.
- Business expenses.
- The cost of forming a business — this varies by state and is typically between around $80 and $250, although outliers do exist. You only pay this fee once.
- The cost of filing an annual report — you will typically need to file a report with the Secretary of State once a year, costs vary by state and are generally between $20 and $250, although outliers exist.
- The cost of using an online formation service — the simplest way to start an LLC is to use a service like Incfile, LegalZoom, or BizFilings — all of these services charge a fee, typically between around $50 (Incfile) to $149 (LegalZoom) for the basic service.
If you want liability protection and want to save money on your tax bill, and don’t mind the extra cost and overhead of forming an LLC, this could be an ideal choice.
For most people making up to $30,000 a year in the gig economy, a sole proprietorship is probably your best option. Although you don’t get liability protection, the extra costs of creating and running an LLC will largely eat up any tax savings you might make. As your income increases, an LLC may become a better option. To understand what might be best for you, speak to your accountant.