Do You Need an LLC to Dropship?

I dropshipped without being an LLC, so I am sure that a Limited Liability Corporation is not a requirement or a need for dropshipping. 

In this article, I will explain:

• Differences between an LLC and a sole proprietorship business 
• Pros and cons of LLC and sole proprietorship business
• Steps to get a business permit

Key Takeaways: 

• A business permit protects you from going to jail
• LLC is an ideal way to protect your personal financial assets
• In some jurisdictions, you can dropship without a business permit at all

In the end, I am hoping you can decide which business setup is the right one for you. Let us begin!

Do you need an LLC to dropship?

Having a limited liability Corporation company is better than having none, but you do not need it. While sole proprietorship and partnership will also work, there are liability differences among these three types of business structures. 

All in all, the choice is up to you. In the succeeding sections, I will provide more information on the pros and cons of having an LLC versus a sole proprietor dropshipping business. 

What is an LLC?

LLC stands for Limited Liability Corporation. It is a common business structure in the US (and some countries, too) where the owners have limited financial and legal liability. 

In general, the owners of the LLC have protection for their personal assets against lawsuits and debts. The thing with an LLC is that it is like a hybrid between a full corporation and a sole proprietorship business. 

People commonly use LLCs as a business structure to protect themselves. To understand this better, you need to understand that the government views a corporation as a different entity as if it were a real person or human being. 

Let us say that three people established an LLC. These people are John, Jane, and Mary. Below are their assets in cash:

• John – $100,000
• Jane – $100,000
• Mary – $100,000

They put up an LLC company, which they called JJM LLC, with each contributing $50,000. In time, let us say that the business owes $500,000 to the bank and the business cannot pay this debt anymore. 

By law, the bank, or the creditor, can only seize the assets of the JJM LLC company, such as its land and machinery. The banks or the creditors cannot get the remaining $50,000 from each person because these are personal properties.  

So that is how corporations, including LLCs, work. The government sees them as a different entity, and the personal assets of the owners are separate from what the LLC owns as assets. 

LLC Versus Sole Proprietorship

In this section, I will provide you with the most important distinctions between an LLC and a sole proprietorship business. This section should help you decide which business type to form before you start dropshipping. 

1. Ownership

There is only one owner for a sole proprietorship business, and the owners must be of legal age. In an LLC, you can have several owners, often referred to as members. 

2. Liability

In a sole proprietorship business, the owner is liable financially for damages, debts, etc. For example, if you owe money to the bank and you can no longer pay, the bank can, with a judge’s approval, seize your properties like houses, real estate, and cars to pay for your debt. 

LLC members get protection from this kind of liability. Only the properties of the LLC will go to the creditors. 

3. Taxation

LLCs do not directly pay taxes. The tax responsibility goes to the individual members who own the LLC. It means that once dividends or profits are shared with the members, it is the member who must file taxes for himself. 

That process is what we call pass-through taxation. However, an LLC can also choose to use corporate taxation.

With a sole proprietorship business, you will always pay taxes as an individual. You will not enjoy the tax benefits of corporations. 

Corporations only pay taxes based on the profits, not the gross income. Sometimes, corporations are taxed twice. First, the corporation pays a tax on the profit. Then, the corporate shareholders will pay tax once they receive the dividends. 

4. Operations

In a sole proprietorship business, you are the boss, and you make all the decisions. In an LLC, there are two ways you can manage the operation:

• All members have voting rights to make decisions
• You all appoint a manager to make decisions for the LLC

If you do not want to debate with people, then a sole proprietorship business is better for you. However, you are fully responsible for your actions. 

5. Profits

You get to keep all the profit in a sole proprietorship. However, you also bear a bigger risk since it is only you who will fund the whole business operation.

There are no stocks in an LLC. However, the LLC can issue membership interests. This membership interest is what we call a membership unit. The membership unit gives financial and other rights to the members, mostly based on how much they invested. 

The profit of the LLC, similar to a corporation, is shared among the members based on their membership units. The challenge is that in an LLC, it is likely that all the members have to vote on what to do with the profits. 

Here are the most common decisions they make:

• Reinvest the profits in the business or another business
• Leave the profits intact as cash for emergency purposes
• Split the profits as dividends

Because there is a voting mechanism in most LLCs, you will not have the last say. You are running an LLC business with several people, so you cannot do whatever you want. 

Summary: Sole proprietorship and LLC businesses have vast differences. The main ones are liabilities, decision-making rights, and taxation.

Pros and Cons of Sole Proprietorship for Dropshipping

Pros of Sole Proprietorship for Dropshipping 

• Easy to set up – the legal requirements for a sole proprietorship business are simple. You only need your name, proof of age and identity, and address, and you are good to go. Other business formats need articles of partnership or incorporation. You also have to deal with other branches of the government, like the SEC, if you are not a sole proprietorship business. 
• Complete Control – since you are the owner, you can make decisions according to your beliefs and interests. Partnerships and corporations go through a lot of debate before they make decisions.
• Profit Sharing – you do not need to share your profits with anybody. In LLCs and corporations, the person who has the highest investment gets the biggest share of the profit. 
• Tax Benefits – you do not need to pay business tax. All your taxes are personal, like taxes that employees pay. You can also deduct expenses from your taxable income. 

Some examples of business expenses are payments to freelancers and subscriptions. For example, if you hired a Facebook marketer, you could write that off from your tax. 

Although corporations and LLCs can also do this, there is a possibility that LLC members can be double-taxed.  

In addition to all these, a sole proprietorship business can also enjoy straightforward documentation. There is not much to cover legally, such as audits and banking statements. Corporations and LLCs must have different signatories when it comes to releasing funds, which can be a headache. 

Cons of Sole Proprietorship for Dropshipping

There are some things that you may not find favorable if you choose a sole proprietorship business, which we will discuss below.

• Financial Risk – since you are the sole owner, you will fund your business from your pocket. It is also you who will borrow money if you have to. As such, you are liable for all the financial risk if your dropshipping store does not work out.
• Liability – if your business ever gets into legal or financial trouble, you are responsible. In the eyes of the law, you and the business are the same entity. If you owe money, your creditors can get your personal assets. If you violated copyrights, you are personally liable. 
• No rest day – it is likely that your capital is small so you cannot hire an employee. Even if you hire one, it is not enough. Chances are you will not have rest days because you have to work on your dropshipping business alone.

Keep in mind that your personal liability is unlimited. It means that if you get sued and a judge awards punitive damages to whoever sued you, they don’t care if they take your house and cars.

This is not likely to happen since you are merely dropshipping. However, you must also take it upon yourself to understand business laws, so you do not step outside your boundaries.  

Summary: A sole proprietorship business offers flexibility to you as the owner. It allows you to make decisions as you deem fit. The only challenge in a sole proprietorship business is that you are taking all the risks.

Pros and Cons of LLC for Dropshipping

Pros of LLC for Dropshipping

• Limited Liability – as the name implies, the liability of an LLC has limits. Creditors cannot go after your properties. It means that if you ever get into debt, the bank cannot seize your assets.
• Taxation – depending on how the LLC is set up, you will only pay tax once, and you will pay it as an individual. The only tax you pay is based on the money shared with the members as profits or dividends. 
• Less Documentation – while sole proprietorship is easier in terms of legal documentation, an LLC requires less paperwork compared to a full corporation. Perhaps the most challenging aspect of an LLC is that you need an article of organization. This should not be an issue since there are many templates online and you only need to edit them to suit your situation.
• Flexibility in Dividends – typically, what you invest is proportional to what you own in a corporation. An LLC does not work this way. For example, you can own 25% of the LLC but you do not need to invest 25% of the capital. Because of this, you can ask an outside investor to fund the company, yet you will own a majority of it.

As an LLC, the members can also decide how to allocate the profits among themselves. In some cases, the profit distribution is different from the actual percentage of ownership. For example, a member may get more profit because he spent more hours operating the businesses. 

Cons of LLC for Dropshipping

• Limited Business Lifespan – the life of the business depends on the members. An LLC has to close if a member decides to leave. This is the most common law, but other states and other countries may allow that member to be replaced with another person. 
• Hard to Transfer Ownership – if the dropshipping business succeeds, you will certainly want to own the majority of the business, right? After all, you are the one who worked hard to make it successful. This, however, can be a challenge because laws make it difficult to transfer the ownership of an LLC.
• Difficult to Convince Investors – people who fund businesses want to own a proportional part of that company. If you build an LLC, investors will not like the idea that you own more even if they invested more.   

One thing I need to add is that in an LLC, profits must be distributed immediately and the members who receive the dividends must pay taxes. In a real corporation, the business can defer profit sharing and even avoid taxes altogether by reinvesting the profit in the business. 

An LLC is generally a good idea if you want to do business, but you need to carefully assess your situation. If a member leaves, you must shut down your business. 

On the other hand, if you owe a lot of money to your credit card issuer, the bank cannot get your assets like your car to pay them, provided that you are an LLC. 

How Do I Get a Business License?

The process for getting a business license varies from one place to another. The document requirements also depend on the business structure of your choice. 

First of all, it is important to understand the types of business licenses in the United States. These are: 

• State License – this is the most common license for dropshipping. It is a document stipulating that your local government approved your business and that you are a legitimate business. Not all states require a state license for business operators. In many cases, you just need a local license from your town or city government. 
• DBA Permit – you need this permit if you want to do business under a different name. If your business is a sole proprietorship or partnership, the default business name is your name. If you want to change it to a brand name, you must apply for a Doing Business As (DBA) permit. 
• Specialty License – you only need a special license if you want to sell regulated items. For example, you cannot just import lithium batteries, animal parts, liquor, and other related products. In my opinion, it is best to stay away from products like these because they pose a serious risk to your business.  
• Federal License – you need a federal license if your business falls under-regulated industries. Dropshipping does not belong to this, so there is no need to apply for it. 

The license you will apply for lies on the types of products you will dropship. Should you opt for a sole proprietorship business, you must apply for a DBA Permit so you can legally use your brand name. 

To apply for a business permit, follow the steps below. 

1. Pick a Business Structure

The first step to securing a business permit is to determine the business structure. By this point, you must have already decided if you will set up a sole proprietorship business or an LLC.

2. File For an Employer Identification Number or EIN

The EIN is your tax ID, which only applies if you are not setting up a sole proprietorship business. Should you choose sole proprietorship, you only need your Social Security number or SSN.

The EIN is important, as you will need it in the other documents that you will submit to the government branches. 

You can apply for an EIN at the IRS. For other countries, the IRS is equivalent to the government department that handles taxes.  

3. Submit the Paperwork 

The last step is to submit your paperwork and get your licenses. This is where it gets tricky because your setup will determine which government office you need to go to. 

The first step is to go to your municipal office. That is where you will get guidance as to the appropriate steps you need to take.

Generally speaking, business permits come from the Secretary of State. In some instances, you may need a permit from the Franchise Tax Board. A Seller’s Permit will come from the Department of Revenue.

There is no single step-by-step process to this as each state has a different process. The best thing to do is visit your local municipal office and ask the government officials for guidance. They will give you a list of what permits you need to apply for and what departments to go to. 

Dropshipping Without a Business License

Benjamin Franklin once said in a letter to Jean-Baptiste Le Roy that only death and taxes are certain. That statement should tell you that it is also best to have a business license. 

In the US, almost all sources of income are taxable, and dropshipping is not exempted from tax. Although you can operate a dropshipping business without a business license, the last thing you want is the IRS knocking at your door.

Other countries do not share the same laws. What this means is that in some countries, small businesses are not required to pay taxes. Therefore, they do not even need to register their businesses. 

My suggestion is that you should never be on the wrong side of the law. Many people will offer workarounds and ways to circumvent the law. You must understand that illegal means illegal. If you get caught, and you get penalized for tax evasion, you have no one to blame but yourself. 

The question now is: do you need a business permit to operate on e-commerce platforms? The answer is no. Platforms like Amazon Shopify or Etsy do not require business permits. 

FAQ: Do You Need an LLC to Dropship 

Do you need an LLC to dropship on Shopify?

No, you do not need to form an LLC to dropship on Shopify. You can do it as a sole proprietor or an individual. You do not even have to register yourself as a business to use Shopify. 

Do you need an LLC to dropship on Amazon?

No, you do not need to be an LLC to dropship on Amazon. Even if you do fulfillment by Amazon, they will not ask you for a business license. You can always do dropshipping with Amazon as a private person or individual. However, you still have tax liabilities to your government. 

Do you need a business plan for dropshipping?

Yes, you need a business plan for dropshipping. You do not need a fancy one such as a PowerPoint presentation. You can write your plan in a notebook or write it in a word-processing document like Google Docs.  

Should I make a business account for dropshipping?

It would be ideal to do so. I suggest you get an email address, a bank account, and a credit card solely for your dropshipping business. 

Do you need your brand for dropshipping?

A brand name that you own is something I highly recommend. Your brand will help you separate yourself from competitors. Read our tips for branding for more information.

What is an LLC in America?

LLC stands for Limited Liability Corporation. It is a kind of business structure that protects the owners from financial liabilities. 

Can you use Shopify if you don't sell anything?

Yes, Shopify has a blog feature that you can for other purposes, such as an affiliate marketing website. 

Is dropshipping legal?

Yes, dropshipping is a legal business. For more details, read our blog Is Dropshipping Legal? 

Is dropshipping still profitable?

Yes, it is highly profitable and will always be. You must choose profitable niches with low competition if you want to succeed in dropshipping. 

What kind of business is dropshipping?

It is an online retail business model where you do not buy inventory. To learn more, read our full guide on dropshipping. 

Summary

The next step from here is to list down your concerns and revisit the pros and cons of either an LLC or a sole proprietorship business.

Then, you can decide which business structure works best for your situation. If you are a minor, there is no other way but to create an LLC.