The Step-by-Step Guide to Converting Your Sole Proprietorship to an LLC

Philip Silberman
Steps to Change a Sole Proprietorship to an LLC in Texas

Transitioning from a sole proprietorship to a Limited Liability Company (LLC) is a smart move for small business owners seeking asset protection and potential tax advantages. This process involves a series of necessary legal and administrative steps to ensure the new entity is properly formed and separated from the owner.

Step 1: Form the LLC and Change Assumed Name Records

Basic LLC Formation steps:

  1. File the Certificate of Formation with the Texas Secretary of State.
  2. Abandon Old Assumed Name: To prevent any future plaintiff's attorney from alleging you are still operating under your personal capacity, you should abandon any previously assumed names used under the sole proprietorship.
  3. File New Assumed Name: File a new assumed name for the LLC with the Texas Secretary of State.

Step 2: Establish Federal EIN and Tax Status

Once the LLC is formed, you must establish its federal EIN and determine its tax treatment.

  1. Obtain an EIN: Secure an Employment Identification Number (EIN) from the IRS. This is done online and only takes a few minutes.
  2. Elect S Corp Status (Optional): If you desire the tax benefits of an S corp, you must file IRS Form 2553. Remember to have your spouse sign IRS Form 2553 if you are married and live in a community property state.
  3. Tax Default: If you do not elect S corp status, a single-member LLC will default to a disregarded entity and a multiple member LLC will default to a partnership for tax purposes.

Step 3: Formalize the Business Separation

To maintain the asset protection offered by the LLC, you must rigorously separate the business's finances from your personal ones. This is a critical step in preserving the corporate veil.

  1. Open a Business Bank Account: The bank will require the LLC's documents, such as the Certificate of Formation, Operating Agreement, and a Consent Resolution from the owner, to open the account.
  2. Capitalization: Fund the new account with an initial contribution (capitalization). Ensure the amount of this initial contribution matches the amount stated in your LLC documents.
  3. New Accounting File: Start a new QuickBooks file (or other accounting software). Do not continue the old sole proprietorship file. The opening balance of this new file must match the initial contribution to the bank account.

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