How to Start a Sole Proprietorship in California

Sole proprietors without employees don’t need to register for a federal tax ID number. They can use their Social Security Number (SSN) for tax purposes.

However, we recommend obtaining an EIN from the Internal Revenue Service (IRS) for several reasons:

• Opens up business banking opportunities: An EIN is often required to open a business bank account. This can help separate personal and business finances.
• Helps establish business credit: With an EIN, you can apply for business credit cards and loans separate from your credit. This can help you build credit for your business, which may be useful for future financial opportunities.
• Eases hiring process: If you plan on hiring employees in the future, you must have an EIN. It must report taxes and other documents to the IRS and set up payroll because it helps distinguish employees from employers.
• Enhances business privacy: An EIN can also replace your social security number in business paperwork, protecting you from identity theft and adding an extra layer of privacy.
• Prepares for business growth: Even though a sole proprietorship does not legally require an EIN, having one can simplify the transition if you decide to incorporate or restructure your business.

Depending on your business type, you may need to obtain specific licenses, permits, and zoning clearances.

• California does not require a general business license. You can use the CalGold database the California Governor’s Office of Business and Economic Development provides to determine which licenses, permits, or zoning clearances you need.

• In addition to state and local requirements, certain industries or professions may have specific licensing requirements from state agencies such as the California Department of Consumer Affairs.
• Major cities in the state of California, Los Angeles, San Diego, and San Jose, to name a few, may have specific local licenses and permits that you must apply for.

Additional state and local taxes

• In California, sole proprietors are subject to state income tax. You must report your business income on your personal income tax return (Form 540).
• If your business sells tangible goods, you may need to register for a seller’s permit and collect sales tax from customers. Visit the California Department of Tax and Fee Administration website for more information on sales and use tax requirements.
• Depending on your business activities, you might be subject to additional taxes at the state or local level. Research and understand any specific tax obligations related to your industry or location.

Drawing a line between your personal and business finances is crucial for maintaining accurate financial records and preserving your assets. Consider setting up the following:

• Business bank account: Establishing a separate account can simplify the tracking of income and costs, simplify tax filing, and lend credibility to your operation.
• Business credit card: Having a business credit card not only helps segregate personal and business expenses but also aids in monitoring business-related costs and building your business’s credit, which can prove beneficial in the future.

As a sole proprietor, you bear the full brunt of any business liabilities, making insurance a crucial aspect of your business plan. This can protect you from unforeseen claims or incidents. We recommend looking into the following:

• General business liability insurance: This policy covers accusations of property damage, bodily harm, or personal injury linked to your business activities.
• Professional liability insurance: If you offer services, this insurance is critical as it shields you from claims of supposed negligence, mistakes, or oversights in your service provision.

Careful recordkeeping helps maximize tax deductions and organize your sole proprietorship’s finances. Be sure to track:

• Income
• Expenses
• Assets/liabilities
• Inventory
• Receipts

Using bookkeeping software, spreadsheets, or an organized system makes staying on top of documentation easier for tax filing and general financial health.

For some businesses, forming an LLC may better serve long-term goals than a sole proprietorship. LLCs offer advantages like:

• Liability protection: Your personal and business assets are legally distinct with an LLC structure. Your business is a legal entity that files taxes separately from the business owner.
• Credibility: The formal LLC designation can boost your professional image with customers.
• Growth potential: LLCs are well-suited if you aim to expand your current operations eventually.
• Tax flexibility: LLCs permit you to select how your business income is taxed.

However, LLCs also come with tradeoffs to weigh:

• Complexity: LLCs require drafting an operating agreement and annual reporting obligations. Sole proprietorships involve less paperwork.
• Cost: Forming and maintaining an LLC has higher upfront fees and ongoing costs.

• California Secretary of State
• US Patent and Trademark Office
• California County contact details 
• EIN application 
• Personal tax form 1040
• Schedule C
• Schedule SE
• California personal income tax return (Form 540)
• California Department of Tax and Fee Administration website
• Calgold
• California Governor’s Office of Business and Economic Development
• California Department of Consumer Affairs