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Are you an entrepreneur who’s just starting out and wondering what type of business structure you should choose? You may already know that the most common structures are sole proprietorship, limited liability company (LLC), partnership, S corporation, and C corporation. As you make your decision, it’s worth considering the pluses and minuses of an LLC structure, even if you’re just getting your company off the ground.

What Is a Limited Liability Company (LLC)?

An LLC is a type of business structure that protects the owner’s personal money and property if their company runs into any type of legal trouble. For example, if your business is found liable in court or defaults on a large debt, your house, car, and personal assets are shielded from legal seizure.

Among the LLC’s advantages are more flexibility when it comes to taxes and, compared with some alternatives, less paperwork for daily operations.

Pros of Forming an LLC

Here are some of the top benefits of a limited liability company.

•   Limited personal liability: Incorporating as an LLC protects your personal assets should your company run into legal trouble or be unable to pay its debts. However, if you’re required to personally guarantee loans taken out in the company’s name (e.g., a small business credit card), you would be directly responsible for any debts.

•   Tax advantages: The tax benefits of an LLC are notable. By default, all profits are passed through the company to members of the LLC and taxed at their individual rates. If you prefer, though, an LLC allows you to opt for taxation as an S corporation, potentially limiting the self-employment taxes you’ll have to pay.

•   Stated roles for multiple LLC members: Another LLC advantage is that you can designate multiple owners upfront. This can help you avoid some business headaches over owners’ duties and domains. As long as you have a solid operating agreement, it’s easy to legally establish everyone’s responsibilities and profit allocations.

•   Simpler to establish and run than a corporation: The costs and paperwork involved in setting up an LLC go beyond what’s required for a sole proprietorship, but aren’t nearly as intensive as the process of creating a corporation.

Cons of Forming an LLC

There are also aspects of an LLC structure that may be less appealing.

•   Tax disadvantages: If you’re treating your LLC as a pass-through entity, you’ll pay full self-employment taxes on the first $168,600 of your net income. To pay less, you’d have to elect for your company to be taxed as an S corporation. You’d then be able to draw a reasonable salary (which is subject to self-employment taxes) and distribute to yourself and other members any remaining net profit (which isn’t subject to self-employment taxes).

•   Limited continuity: If a member of the LLC leaves, state law may call for dissolution of the original LLC. This would mean you’d have to refile the needed paperwork and go through the entire process again. To avoid such problems, the LLC’s solid operating agreement should contain some provisions spelling out how the business would handle this development.

•   Ongoing fees: Even after you pay the initial filing fee to your state, you’re likely to have additional fee obligations. Examples include payment for registered agent services, attorney fees for drafting an operating agreement, annual report charges, licenses, permits, and more.

Recommended: Sole Proprietorship vs LLC: How to Choose

LLC vs Other Business Structures

As mentioned above, LLCs are just one type of business structure. An individual business owner can also choose to operate their company as a sole proprietorship, S corporation, or C corporation.

•   Sole proprietorship: This is the easiest business structure to adopt. It forms automatically when you start selling goods or services; no formal filing is required. Legally, there is no separation between you and your business, so you’ll be personally responsible for repaying small business loans and covering any court judgments against your company. This exposure puts all of your personal assets at risk.

•   S corporation: When operating as an S corporation, you can give yourself a salary and pay payroll taxes only on that amount. Income beyond your salary that is distributed to you as profit is not subject to the same self-employment tax.

•   C corporation: A C corporation is taxed independently of its owners. Like all corporations, it offers liability protection. Compared to an LLC, there are more rules and paperwork involved, and it doesn’t offer the same amount of tax flexibility. A C corporation may be a good option if you’re trying to avoid startup business loans and plan instead to raise capital from other sources.

Overall, an LLC is a good middle ground for many business owners. LLC status does call for more paperwork and legal preparation than a sole proprietorship, but the advantages of an LLC company — including liability protection and tax flexibility — may make the extra effort worthwhile.

It’s also worth considering that lenders may prefer LLCs over sole proprietors when it comes to small business loans and business lines of credit, as setting up an LLC may help convey that your company is fully established. Taking these steps to protect yourself may signal to others that you’re a responsible business owner.

Recommended: Equipment Financing

Is an LLC Right for Your Business?

An LLC may be the best fit for your business if you want to protect your personal assets but don’t want the heavy lift of forming a corporation. Many small businesses choose this structure because an LLC is much simpler to form and more customizable (e.g., the option to be taxed as an S corporation).

However, there are also reasons to consider C corporation status. If you plan on raising money from investors, having a C corporation makes it easier to divide equity among them and to issue different classes of stock. The downside is that forming and maintaining a C corporation is costlier; it requires more extensive record-keeping, reporting, and operational processes.

How To Form an LLC

To form an LLC, you’ll need to do the following:

•   Choose the state you want to be based in. State laws set the rules for LLCs, so be aware that your selection may have financial consequences.

•   Pick an appropriate name. Note that your state may have naming rules, plus you’ll want to confirm there’s no other company with your preferred name, so check the Secretary of State’s website or call the office to make sure.

•   File articles of organization with your state. You’ll probably have to pay a filing fee.

•   Hire a registered agent to receive all legal correspondence. If your LLC has multiple members, you can designate one of them as the registered agent.

•   Put an operating agreement in place. This ensures everyone knows their role in day-to-day operations.

•   Get an employer identification number (EIN) from the IRS. It’ll enable you to open a business checking account if you don’t already have one.

The Takeaway

The benefits of a limited liability company structure for a small business are worth considering. Though shifting your business from sole proprietorship to LLC involves extra paperwork and fees, having the LLC’s liability protection and tax flexibility may compensate.

If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.

FAQ

What are the advantages of an LLC company?

Forming an LLC has a few advantages. For starters, it’s easier to form than a corporation, and it protects you from personal liability should your company fall behind on debt payments or lose a lawsuit.

What are the disadvantages of forming an LLC?

LLCs must pay initial filing fees as well as annual fees for reports, license renewals, and more. Both the amount and the timing of those fees varies by state. In addition, an LLC business owner is considered self-employed; this means you’ll owe self-employment taxes for Social Security and Medicare on your company’s profits. However, an LLC can choose to be taxed like an S corporation, which may introduce ways to lower the tax bill.

How does an LLC compare with a sole proprietorship?

It requires more effort to form an LLC than a sole proprietorship, but there are many benefits of an LLC as well. Perhaps the biggest one is that the owner’s personal assets are not at risk in the event of a lawsuit or debt default.

A sole proprietorship can be formed very fast. You have sole proprietor status as soon as you start to sell your goods and services. However, this business structure doesn’t provide any legal safeguards to the owner.

Do LLCs pay more taxes than other business types?

You may end up paying more to the IRS, thanks to self-employment tax rules, but you do have options. For example, you can choose for your LLC to be taxed as an S corporation, which could mean you’d owe self-employment taxes only on the wages you draw.

Is an LLC the best business structure for beginners?

As always, it depends on your business needs and financial situation. Setting up as a sole proprietorship is the easiest, because the structure requires no official paperwork or fees. LLCs offer liability protection and tax options, but take more time and money to establish. New entrepreneurs should consider how soon they want to start doing business and whether they expect to take on partners or investors.

Photo credit: iStock/Igor Suka

SoFi's marketplace is owned and operated by SoFi Lending Corp.
Advertising Disclosures: The preliminary options presented on this site are from lenders and providers that pay SoFi compensation for marketing their products and services. This affects whether a product or service is presented on this site. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider. See SoFi Lending Corp. licensing information below.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

External Websites: The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.
Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

SOSMB-Q425-037

Hundreds of thousands of business applications are filed every month for everything from new restaurants to landscapers to companies pushing the latest tech. But what makes one of these companies a startup? Is it simply the act of launching a new business?

Not quite. According to a common definition, a startup business is a newly formed company created to develop an innovative product or service and bring it to market, often with the goal of rapid growth and scalability. Other businesses, by comparison, may be designed to serve an existing market and may prioritize sustainable revenue over growth.

This guide takes a deeper look into what makes a startup business, how they are funded, and what challenges they commonly face.

Key Characteristics of a Startup

Startups are defined by a unique set of traits that distinguish them from traditional small businesses. Understanding these characteristics helps explain how startups operate, grow, and navigate risk in competitive markets. The key features of startups include:

•   Technology and innovation: Startups typically introduce new products or services that don’t yet exist in the marketplace. Often these innovations rely on new technology to power them.

•   High potential for growth and scalability: By design, startups are looking to grow quickly by offering a unique product that is able to tap into a large market. Business plans for startups should include plans for the scaling of the business, including how the business expects to attain the funding and resources necessary for growth.

•   Reliance on external funding: Many new small businesses may depend on self-funding or traditional sources of capital, such as small business loans or business lines of credit. A startup, on the other hand, may depend on outside sources of funding, such as angel investors or venture capital to fuel growth.

•   Adaptability: Startups often function in dynamic environments and operate with limited resources. At the same time, they are looking for products that meet the demands of the market. The ability to learn from failures and quickly pivot as market conditions change helps these businesses succeed in finding opportunities and out-maneuvering slower competitors.

•   Potentially higher risk: Startups often require significant capital to get off the ground, and it’s no guarantee that the product or service they offer will provide a return.

Recommended: Small Business Credit Cards

How Startups Differ From Small Businesses

Startups and small businesses are often grouped together, but they are built with very different goals in mind. Startups are typically focused on innovation and disruption, often entering the market with a new product or service while still refining a scalable business model. Their primary aim is rapid growth, frequently targeting national or global markets rather than serving a single local community.

Small businesses, on the other hand, usually operate with proven business models and prioritize steady revenue from the start. They tend to serve established local or niche markets and focus on long-term stability rather than aggressive expansion. Because of this, small businesses are more likely to rely on traditional debt financing or equipment financing, while startups often seek outside investors willing to take on higher risk in exchange for potential high returns.

Recommended: Small Business Checking Accounts

Types of Startups

Startups come in a variety of forms, each with its own set of goals. Here are several examples:

•   Buyable startups: A buyable startup is a company built with the end goal of being purchased by a larger company. These startups may put more focus on the innovative products or services they offer and less on developing their business for the long-term. Examples include WhatsApp, which was purchased by Facebook, or Postmates, which was bought by Uber.

•   Social startups: Social startups may be nonprofit or for-profit companies that are focused specifically on solving social issues, often through technology. TOMS Shoes, which donates a pair of shoes for every pair sold, is a good example of a social startup. Warby Parker uses a similar model with glasses.

•   Scalable startups: Scalable startups focus on business models that allow for rapid growth in customer base and revenue. They often use technology to handle high demand efficiently so costs stay low even as the company grows exponentially. For example, Spotify uses a subscription model to deliver content and scale efficiently.

•   Offshoot startups: An offshoot startup is a company that spins off of a larger, more established parent company. For example, PayPal was acquired by eBay before spinning off to become a payment processing giant of its own.

The Stages of a Startup

Launching a business can be expensive. Startups often receive funding in stages. In the very earliest stage, known as pre-seed funding, the startup often relies on relatively informal sources of funding, such as personal savings or loans from family. At this stage, founders are developing their idea, doing market research, and creating prototypes.

Angel investors may get involved at this stage, as well. These are wealthy individuals who invest their own money in a company in exchange for equity, perhaps also offering expertise and mentorship. Startups may also turn to more formal sources of funding, such as startup business loans or microloans.

Once an idea seems to have legs, the next round is seed funding. Angel investors may continue their funding at this stage, and venture capital firms may step in as well. Venture capitalists are companies that invest pooled money in startups in exchange for equity. In addition to capital, they often provide guidance.

From here, startups may go through several rounds of funding, known as Series A through Series E funding as the company grows. New sources of capital may be available at each funding stage, such as private equity, which involves investing in privately held companies.

Recommended: Small Business Line of Credit

Challenges Startups Commonly Face

Starting any business can involve challenges. Here are several that startups commonly face:

•   Funding: Securing the capital needed to get a business off the ground and keep it growing is perhaps the number one challenge startups face. Entrepreneurs must work to convince investors that their idea is worth pursuing over and over again through each round of funding.

•   Competition: No good idea arises in a vacuum. It’s likely that there will be other startups out there with similar concepts and products to offer all vying for market attention, customers, and funding.

•   Finding customers: It’s one thing to have a great idea, but it’s another to actually get it in front of people who are willing to use it. Reaching new users and building trust can be a critical challenge of getting a product or service off the ground.

•   Talent: Startups must build teams of exceptional employees to carry out their vision. This is especially critical when companies are small and the skills of every team member really count. However, startups are inherently risky, so it can be challenging to convince talent to join an emerging company, especially if a large part of their compensation — such as stock options — depends on the success of the company.

•   Scaling: The goal of most startups is growth. Scaling means increasing revenue at a faster rate than costs grow. Achieving this is not always easy and involves carefully managing growth, building scalable infrastructure, and maintaining quality.

The Takeaway

Understanding what defines a startup helps clarify how these businesses differ from traditional small companies in purpose, structure, and growth strategy. Built around innovation, adaptability, and scalability, startups aim to test ideas quickly and expand rapidly while navigating higher levels of risk. By recognizing the characteristics, stages, and challenges startups face, entrepreneurs can better decide whether the startup model aligns with their goals and resources.

If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.

FAQ

What is the official definition of a startup?

There is no single official definition, but a startup is generally defined as a young company created to develop a new product or service under conditions of uncertainty. Startups typically focus on innovation, testing a scalable business model, and finding repeatable ways to grow in emerging or evolving markets.

How is a startup different from a small business?

While startups are designed for rapid growth and market disruption, other small businesses typically function within an existing market and are focused on sustainable growth and operations.

What are the stages of a startup?

Startups are broken into stages based on funding. There is the pre-seed stage when an idea is just getting off the ground, the seed stage that kicks off the business, and possible Series A through Series E rounds of funding as the business grows. Ultimately, the goal of a startup is usually a sale of the business or an initial public offering.

How do startups get funded?

Startups may receive funding in a variety of ways, from personal savings and small business loans in the early stages of development to angel investors, venture capital, and private equity through other stages of funding.

Do all startups aim for rapid growth?

No, not all startups aim for rapid growth. While many pursue fast scaling and large markets, others focus on sustainable growth, niche audiences, or lifestyle goals. These startups may prioritize steady revenue, profitability, and long-term stability over aggressive expansion or venture capital funding.

Photo credit: iStock/RealPeopleGroup

SoFi's marketplace is owned and operated by SoFi Lending Corp.
Advertising Disclosures: The preliminary options presented on this site are from lenders and providers that pay SoFi compensation for marketing their products and services. This affects whether a product or service is presented on this site. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider. See SoFi Lending Corp. licensing information below.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

SOSMB-Q425-039

A strong customer base is key to building a sustainable business. But in order to attract one, you have to get the word out to build brand awareness. Often, the best way to do that is to promote your products and services through a mix of free and paid advertising.

Here, we’re exploring proven advertising strategies — both online and offline — that can help you increase visibility, attract more customers, and build a stronger brand.

Why Small Business Advertising Matters

Advertising can be a critical business growth strategy. Whether you’re a brick and mortar or growing an ecommerce business, advertising helps you connect your offerings to the people who need them. Ideally, this will eventually build a customer base.

Advertisements continually remind people about your business, helping ensure that it stays top of mind, and they alert customers to new products, services, and promotions. Your advertisements could also help establish your brand’ story, including how you are different from your competitors.

A marketing strategy can also play a key role in a small business loan application, demonstrating to lenders that you have a plan for attracting customers and generating revenue.

Recommended: Business Line of Credit

Set Clear Advertising Goals

Your advertising goals are what you hope to achieve through your ads, such as increased sales and revenue. These targets help you understand the best ways to advertise and whether your ads have been effective.

Consider setting SMART goals, which stands for specific, measurable, attainable, relevant, and time-bound. Founded by George T. Doran, SMART goals may help improve your chances of reaching that goal.

Your goals should be unambiguous about what you want to achieve and why. Make sure that there are quantifiable outcomes that allow you to measure progress and success. Be sure it’s possible to achieve these goals and that they are related to your overall business strategy. Finally, be sure that there is a start and end date, which is a timeframe over which you’d like to see your goals accomplished.

For example, a SMART goal might be to increase online sales by 15% over the next year through targeted online ads.

Recommended: How to Improve Business Performance

Know Your Target Audience

Knowing who is most likely to buy your products or services helps you target your advertising more effectively. Pinpoint this group through market research, such as trend analysis, surveys, and one-on-one interviews with customers. You may also take a look at who competitors are targeting to get a general idea of the demographics you should consider.

Analyze existing customers and traffic to your website to understand who’s coming and what they’re buying.

Build a Strong Brand Message

Your brand message helps consumers understand what a company offers and why it matters to them. It should demonstrate where a brand fits in the market and how it’s different from its competitors. A brand voice can establish a tone for these communications.

Recommended: What Is Equipment Financing?

Best Ways to Advertise Your Business Online

There are several online strategies you may consider for your ad campaign, such as:

•   Search engine advertising: With this strategy, advertisers bid for the right to display an ad on a search engine result page. The ads are typically pay-per-click, so you’re paying by the click rather than for ad space.

•   Display ads: These appear on websites such as online magazines, newspapers, or blogs. Typically you purchase ad space directly from the website owners or an ad network, such as Google Ads.

•   Social media advertising: When using this strategy, you purchase ad space on a social media platform. Each platform may have different display types and different ways to target audiences.

•   Native advertising: A native ad is designed to look like the content surrounding it. For example, the ad might look like an article on a news media site.

•   Retargeting: Ever wonder why the brand of couch you once considered now shows up as an ad everywhere you go online? That’s thanks to retargeting strategies, which serve ads to people who have already looked at a product. These ads may help convert customers who have already demonstrated some interest in your product.

How to Advertise Your Business Locally

To advertise your business locally, consider a mix of digital and more traditional options. Use local keywords in your website and blog, and you can use location targeting for paid ads, such as on social media. You can also take advantage of online directories, especially if they are free.

More traditional methods of advertising in your home area might be advertising with local media, such as radio, newspapers, or local television stations. You may also consider sponsoring local events, such as little league games or holiday parades.

Recommended: Small Business Credit Card

Low-Cost and Free Ways to Advertise Your Business

Some low cost or free ways to advertise your business include:

•   Establish a Google Business Profile: This is a free tool that controls how you appear on Google maps and in searches. It allows you to fill in your business name, location, and phone number, and upload images.

•   Ask for reviews: Ask customers to share their experience and review your products and services.

•   Leverage social media: Social media provides a free and direct way to communicate with your customers. Figure out which platform your target audience uses most and build a presence there.

•   Optimize your SEO: Search engine optimization, or SEO, helps determine where your website ranks in online searches. Optimize results by using keywords your customers may search when looking for products and services like yours.

•   Create an email list: Collect client contact information and build a local email list to send out updates and offers.

How to Track and Measure Advertising Results

Tracking and measuring your advertising results can help you understand what’s working and where your budget is best spent. Without clear performance data, it’s difficult to know which campaigns are driving real business outcomes versus those that simply generate noise. Consistent measurement allows you to make informed decisions and improve results over time.

By setting clear goals and monitoring the right metrics, you can connect your advertising efforts directly to sales, leads, or engagement. Modern analytics tools make it easier than ever to track performance across digital and traditional channels, helping you refine your strategy and maximize return on investment (ROI).

Key ways to track and measure advertising results include:

•   Define clear objectives: Set specific goals such as website traffic, lead generation, phone calls, or sales conversions before launching a campaign.

•   Use analytics tools: Platforms like Google Analytics, social media insights, and ad dashboards provide data on clicks, impressions, and user behavior.

•   Track conversion metrics: Monitor actions that matter most, such as form submissions, purchases, or appointment bookings.

•   Measure cost efficiency: Review metrics like cost per click (CPC), cost per lead (CPL), and overall ROI to evaluate budget effectiveness.

•   Test and compare campaigns: Use A/B testing to compare ads, headlines, or audiences and identify which variations perform best.

Recommended: Small Business Checking Accounts

The Takeaway

Advertising works best when it’s grounded in clear goals and strategy. By understanding your audience, tailoring ads to them, and delivering these ads through the right channels, you can expand your reach, increase your customer base, and set your business up for sustainable growth.

If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.

FAQ

How do I advertise my small business with a low budget?

There are several advertising strategies that require little to no budget, including leveraging social media, establishing a Google Business Profile, creating an email marketing list, and adding your business to free online directories.

What is the most effective way to advertise a local business?

The most effective way to advertise will vary from business to business, but will likely involve a mixed strategy that draws on a strong digital presence and local engagement.

How much should I spend on advertising my business?

As a rule of thumb, businesses may expect to spend roughly 7% to 10% of their gross revenue on marketing. That said, this amount will likely vary depending on your industry.

How can I advertise my business online for free?

You can advertise your business online for free by optimizing your Google Business Profile, using social media consistently, creating helpful content, joining online communities, and encouraging customer reviews. Listing your business in free online directories, leveraging local forums, and collaborating with other businesses can also increase visibility without spending money.

How do I know if my advertising is working?

The only way to know that your advertising is working is to make sure you have measurable goals before you begin. With these in place, you can track pertinent data to see how much your efforts have moved the needle.

Photo credit: iStock/zamrznutitonovi

SoFi's marketplace is owned and operated by SoFi Lending Corp.
Advertising Disclosures: The preliminary options presented on this site are from lenders and providers that pay SoFi compensation for marketing their products and services. This affects whether a product or service is presented on this site. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider. See SoFi Lending Corp. licensing information below.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

SOSMB-Q425-036

Running your own business can be an appealing prospect. Working for yourself comes with a number of benefits, from setting your own schedule to seeing your income grow along with your business.

But how do you decide on the best type of business for you? The good news is that, while having a passion project is great, you can pursue your entrepreneurial dreams even if you don’t have a specific obsession you’re pursuing. There are many different kinds of businesses that can be both enjoyable and profitable to run.

Explore several different types of lucrative business ideas to find the one that fits your skillset and workstyle.

What Makes a Business Profitable

When your business is profitable, its revenue (meaning its gross proceeds) is higher than what you have to pay to run it, including operating costs, employee salaries, inventory, rent, and more. There are three types of profit that businesses may track:

•   Gross profit: Revenue left after subtracting the cost of goods sold (COGS)

•   Operating profit: This profit subtracts even more expenses from revenue, including operating expenses, depreciation, and amortization, as well as COGS.

•   Net profit: This number gives you the amount of profit after all business expenses are deducted.

It’s important to measure your business’s profitability regularly, both on an ongoing basis (like monthly or quarterly) as well as at the end of each year. This can help you assess the health of your company and let you know if you should make any changes to your business plan.

Factors That Affect Business Profitability

There are many things that can impact your company’s profitability. Here are a few of the most common ones you’ll come across when you’re considering the best business to buy.

•   Operations: Both expenses and efficiency can impact business profitability. Increase your bottom line with helpful technology, streamlined processes, and employee efficiencies.

•   Pricing structure: It’s important to strike a balance between being competitive and still maintaining profit margins that work for your business.

•   Market: Not everything is in your control when it comes to profitability. There are also external factors to take into account, like the economy and taxes.

The cost of financing also affects how much revenue stays in your business. Before borrowing any funds, either to buy or operate a company, consider using a business loan calculator to estimate your monthly payment and the total cost of the loan.

Most Profitable Service-Based Businesses

Starting a small business that offers a service is often profitable because you can receive recurring income by repeatedly selling your service to the same customer base. That’s also why a service-based company may be the best business to buy, too. Some common types of service-based businesses are:

•   Pest control services

•   Barbershop/hair salon

•   Pet boarding and grooming services

•   Personal training

•   House cleaning

Most Profitable Online Businesses

Online companies can be some of the most profitable businesses because the startup costs are often relatively small compared to brick-and-mortar models. You may be able to get started with as little as a laptop, a WiFi connection, and a website builder. Once you begin bringing in clients, get started on opening a business checking account, and you’re good to go. Online businesses include:

•   Graphic design

•   Virtual assistant

•   Social media marketing

•   Freelance writing

Most Profitable Small Businesses to Start From Home

It’s entirely possible to launch a successful business from the comfort of your own home, even with minimal specialized skills. Options include:

•   Dog walking

•   Bookkeeping

•   E-commerce

•   Dropshipping

•   Handmade goods

Most Profitable Low-Investment Business Ideas

Make your entrepreneurial dreams come true even without a cash flow loan or other type of small business financing. Below are some ideas that don’t require a lot of upfront funds.

•   Vehicle detailing

•   Reselling

•   Carpet cleaning

•   Landscaping

•   Senior home companion

Most Profitable Franchises

Typically it takes a substantial amount of capital to get a franchise started, whether you pay with cash or a startup business loan. If you’re interested in a franchise, here are some of the most profitable business types.

•   Automotive maintenance and repairs

•   E-commerce/digital services

•   Education and tutoring services

•   Fast-casual and quick-service restaurants

•   Fitness/wellness services

•   Home services (landscaping, cleaning, home improvements)

•   Pet care services (grooming, walking, daycare)

•   Senior care and healthcare support services

How To Choose a Profitable Business Idea

What’s the best business to purchase or start for someone in your situation? Follow these guidelines to start your selection process.

Consider your interests: It’s hard to sustain an entrepreneurial lifestyle if you’re not excited about the work you do. So don’t try to force an industry that doesn’t fit your skillsets or really appeal to you. Instead, pick something you’ll enjoy doing day after day.

Determine your ideal business model: Everyone has their own goals for starting a business. Maybe you want to work from home to spend more time with family. Or maybe you have a product idea you can’t wait to launch in person. Choose a business that works for your lifestyle goals as well as your interests.

Create a business plan: Once you’ve narrowed down your list of potential business ideas, it’s time to research the market. A business plan can help you determine what steps it will take to launch and maintain your new company. Be sure to include challenges and opportunities you’re likely to come across on your journey.

Estimate your upfront costs: The final step for choosing a profitable business is to estimate the costs and figure out how you’ll pay for them. Maybe you have enough savings to dip into or maybe you’ll want to apply for a small business credit card. Just be realistic with your budget and plan for unexpected costs.

Recommended: Equipment Financing

Tips for Maximizing Profit Margins

Profitability isn’t just one and done. Once you’ve found the best business to purchase — or you’ve got your brand-new business up and running — make sure you’re constantly tracking your profit margins (the difference between your company’s revenue and its costs of operation, expressed as a percentage) and identifying ways to improve your bottom line.

•   Increase revenue: Offer new services or complimentary products to existing customers.

•   Scale back: You don’t need to keep underperforming services or products. Regularly assess what’s working and what’s not.

•   Review your expenses: It’s easy for business budgets to creep up, especially as your company grows. But be sure to analyze your costs regularly and cut back on what you don’t need. It’s a quick and easy way to boost your profit margins.

Common Mistakes That Hurt Profitability

One major issue that impacts profitability for many companies is operating the business without a plan. You need both short-term and long-term goals in order to have a clear understanding of what success will look like for you in terms of both revenue and profitability.

In addition to tracking your goals, make sure you track your finances as well. Reviewing revenue and expenses every month gives you full transparency into how well your company is performing. If you’re churning through cash without seeing revenue improvement, it may be time to adjust the company’s course.

Recommended: Business Line of Credit

The Takeaway

No matter what route you take, a small business loan may help you achieve your goals and reach profitability faster. Fortunately, there are a variety of loans on the market to help with each stage of your business, whether it’s during its inception or as you scale for long-term growth.

If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.

FAQ

What are the most profitable small businesses?

When you’re looking for the most profitable small business to run, a lot depends on your lifestyle, schedule, and interests. Dog walking, bookkeeping, and drop shipping are good low-investment options for a service-based business that you can fit around other obligations until you decide to scale. Alternatively, if you have access to capital, buying into a franchise may be a smart move.

What businesses make money the fastest?

If you need to make money quickly, you can look for a business that has low startup costs that meets an ongoing demand. This could be something as simple as junk removal, lawn care, or flipping products on Facebook.

What is the most profitable business to start with little money?

The key to having a profitable business is to determine what people need and are willing to pay for. Service-based companies often have low investment costs but the kind that will work for you depends on your market and what you’re willing to do. Some potentially lucrative business ideas: If there are laundromats near you, you could consider offering a traveling laundry service. Alternatively, you could walk or watch people’s pets.

How can I calculate my business’s profit margin?

To calculate your profit margin, determine your company’s expenses and subtract them from your revenue. For example, if you’re selling scarves, subtract the cost of the goods sold and your operating expenses from your total revenue — the percentage of difference between that number and your revenue is your profit margin. For instance, if your profit margin is 25%, you’ve netted $0.25 for every dollar that came into your company.

What industries have the highest profit potential?

Industries that are scalable tend to have the highest profit potential. If you are drawn toward a specific niche, ask yourself how it could grow year to year. If you’re unable to answer that question, you may want to consider something else.

Photo credit: iStock/damircudic

SoFi's marketplace is owned and operated by SoFi Lending Corp.
Advertising Disclosures: The preliminary options presented on this site are from lenders and providers that pay SoFi compensation for marketing their products and services. This affects whether a product or service is presented on this site. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider. See SoFi Lending Corp. licensing information below.

Third-Party Brand Mentions: No brands, products, or companies mentioned are affiliated with SoFi, nor do they endorse or sponsor this article. Third-party trademarks referenced herein are property of their respective owners.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

SOSMB-Q425-030

While both insolvency and bankruptcy are terms that describe a situation where a person or company is unable to pay their debts, bankruptcy is a legal declaration – it’s what can result if insolvency isn’t resolved.

Keep reading for a closer look at bankruptcy vs. insolvency, how a person or small business might experience each situation, and the pros and cons of formally filing for bankruptcy.

What Is Bankruptcy?

Bankruptcy is a legal lifeline that an individual or company can use when they’re unable to pay their debts. Debtors file for bankruptcy through the federal court system, and in return they receive help and direction for discharging their debts or making a plan to repay them. Individuals, couples, corporations, and small businesses can file for bankruptcy.

Bankruptcy is designed to give individuals and businesses that are unable to pay their debts a fresh start, while also giving creditors a chance to recoup at least some of what they are owed.

Bankruptcy can have a major effect on a debtor’s financial record, particularly their credit scores. Businesses that file for bankruptcy may have difficulty getting approved for many types of business loans as long as the bankruptcy remains on their credit reports.

Recommended: Free Credit Score Monitoring

How Does Bankruptcy Work?

Either an individual or a business can file for bankruptcy with the bankruptcy court if they find that they are unable to pay their debts. There are different kinds (chapters) of bankruptcy, and debtors will need to apply for a specific kind. While debtors generally don’t have to demonstrate insolvency, they will need to provide relevant documents to show their income and debt. If the court finds a debtor ineligible for that chapter, it can dismiss their request or suggest converting their case to another chapter.

Eligibility requirements can be complicated, which is one reason it may be a good idea to work with a bankruptcy lawyer if you’re contemplating bankruptcy.

An individual debtor (including a sole proprietor) filing for bankruptcy will also need to get credit counseling with a government-approved credit counselor within 180 days before filing. The counselor can help them assess their assets and determine if there are better alternatives to bankruptcy.

Bankruptcy provides an automatic stay of collections and immediate relief from creditors, who must stop collections proceedings while the case is active. The courts will look at the debtor’s assets and decide how much they can reasonably pay and which debts they don’t have to pay.

Recommended: What Is Insolvency?

Types of Bankruptcy

The three main types of bankruptcy for individuals and businesses are Chapter 7, Chapter 11, and Chapter 13.

Chapter 7 Bankruptcy

Also known as “straight bankruptcy” or “liquidation bankruptcy,” Chapter 7 bankruptcy is the most common type of bankruptcy. Overseen by a court-appointed trustee, it entails the selling or “liquidating” of an individual or business’s assets to distribute to creditors. Certain assets are exempt from this sale, however. These vary by state but can include things like cars needed for transportation, basic household furnishings, and the tools needed for work.

Once the assets are liquidated and the debtor has given what money they can to their creditors, the rest of their debt is discharged. However, there are a few exceptions — an individual is still on the hook for debts like child support, taxes, and student loans.

A Chapter 7 bankruptcy will stay on the debtor’s credit report for 10 years after the filing date. And if that person or business gets in over their head again, they won’t be able to file for this chapter for another eight years.

Chapter 11 Bankruptcy

Chapter 11 bankruptcy is designed to help struggling businesses restructure their finances so they can remain open. With this type of bankruptcy, a debtor is able to remain in control of their business and renegotiate with creditors the terms of their debts, potentially modifying interest, payment due dates, and other terms. It can sometimes even erase debt entirely.

Chapter 11 bankruptcy allows a business to stay intact and come out the other side as a healthy business. However, it can be the most complex of all the bankruptcy chapters. It also tends to be the most expensive type of bankruptcy proceeding.

Chapter 13 Bankruptcy

Chapter 13 bankruptcy may be an option for individuals or owners of sole proprietorships who have a regular income stream. It allows the debtor to keep their property and develop a new payment plan to pay back either part or all of their outstanding debts over three to five years. A Chapter 13 bankruptcy stays on an individual’s or business’s credit report for seven years, and those who find themselves swamped by debt yet again can file for this chapter after just two years.

Recommended: What to Know About Short-Term Business Loans

What Is Insolvency?

Insolvency occurs when an individual or business is unable to pay outstanding debts to creditors or banks due to lack of funds. A person or company can be insolvent without going into bankruptcy.

Insolvent individuals and businesses have options to help them pay back their debt. They could borrow money, increase income, or negotiate repayment with their creditors. If these options fail, bankruptcy may be the only remaining possibility.

Recommended: Types of Business Loans

How Does Insolvency Work?

Insolvency is not a legal proceeding. It may sometimes be possible to recover from insolvency informally with creditors, without filing for bankruptcy. However, insolvency can often result in a company or individual filing for bankruptcy.

When an insolvent individual or business is unable to meet their debt obligations, creditors may begin efforts to collect their due. At this point, insolvency can become a real problem.

For example, if an individual holds secured debt, such as a mortgage, and can’t pay, the lender may start foreclosure proceedings on their home. If these go through, the individual could lose their home, since the bank could sell it to help recoup the debt. With unsecured debts, such as credit cards or personal loans, lenders may send the debt to a collections agency, which might then hound the individual in an effort to get them to pay.

Types of Insolvency

There are two different types of insolvency: Cash-flow insolvency and balance-sheet insolvency. A debtor might experience just one or both of them.

Cash-Flow Insolvency

Cash-flow insolvency, or illiquidity, occurs when an individual doesn’t have the cash to pay off their debts as they come due. They may, however, have assets in other, non-liquid forms, like real estate.

In other words, it’s possible for a company or person to be cash-flow insolvent even if they have assets they could sell that are worth more than their debt.

Balance-Sheet Insolvency

Balance-sheet insolvency occurs when a company’s or individual’s total debts exceed the value of their total assets, no matter what form those assets are in or how liquid they are.

A business can be balance-sheet insolvent (debts exceed assets), but cash-flow solvent if it’s able to meet its immediate financial obligations.

Recommended: What Is a Business Liability?

Insolvency vs Bankruptcy

As we’ve seen, insolvency and bankruptcy are not the same thing. However, they can be closely related. Here’s a quick look at similarities and differences between the two terms.

Similarities

The main characteristic that insolvency and bankruptcy share is the debtor’s inability to pay off debts. This may mean that an individual or business doesn’t have the cash to pay them off as they come in or that they don’t have enough assets, including those that they could liquidate, to cover their debt.

Bankruptcy can damage a person’s or business’s credit score for up to 10 years, making it more difficult for the filer to acquire credit in the medium term. Insolvency can also damage a debtor’s credit as a result of being unable to pay their bills on time — though typically this would not be nearly as significant as bankruptcy. A delinquent payment will remain on a person’s or business’s credit report for seven years.

While bankruptcy can be much more damaging, both insolvency and bankruptcy can hurt your chances of approval when applying for a small business loan.

Differences

The main difference between insolvency and bankruptcy is that insolvency is a financial state, whereas bankruptcy is a legal designation. Someone who is insolvent has not necessarily filed for bankruptcy, as there may be other tactics they could use to pay down their debt. Insolvency can sometimes be reversed by negotiating with creditors or with an infusion of cash, such as an inheritance, bonus at work, or large business payment.

A person or business that has filed for bankruptcy typically has no other options to pay off their debt. Filing for bankruptcy means that the business will need to work with a trustee and/or its creditors on next steps, depending on the type of bankruptcy.

Here’s a look at bankruptcy vs insolvency at a glance:

Recommended: Guide to Off-Balance-Sheet Financing

Pros and Cons of Filing for Bankruptcy

Bankruptcy can be a solution for insolvency, but it comes with a number of downsides. Here’s a look at the pros and cons.

Recommended: What Is a Small Business Audit?

Pros of Filing for Bankruptcy

•  Stay of collections and repossessions: When you file for bankruptcy, there’s an automatic stay of collections. Creditors must hit the pause button on collecting debt, repossessing property, garnishing wages, filing lawsuits, and making phone calls.

•  Debt relief: Your creditors will likely be forced to accept whatever payment is determined in your bankruptcy case, including no payment. You may be able to discharge most of your unsecured debt, including credit cards, personal loans, and medical bills.

•  A chance to start over: Once bankruptcy proceedings are over, an individual or business can begin to rebuild their finances and reestablish good credit.

Cons of Filing Bankruptcy

•  Your credit score will take a hit: A Chapter 7 bankruptcy will remain on your credit report for 10 years, while a Chapter 13 bankruptcy stays on your report for seven years. During that time, it will likely be much harder to secure new loans or lines of credit, as lenders may see the bankruptcy filing as a red flag.

•  Some debts may remain: While you may be able to discharge most unsecured debt, other debt can’t be wiped out. You must still pay child support, tax liens, and student loans, for example.

•  You could lose assets of value: Depending on which type of bankruptcy you qualify for, your income, and how much equity you have in your assets, you might lose personal or business items of value if they must be sold to pay creditors.

Here’s a look at the pros and cons of filing for Chapter 7 bankruptcy at a glance:

Recommended: Debt Covenants Explained

Alternatives to Bankruptcy

If your company is experiencing insolvency or even just approaching it, that doesn’t mean that you will necessarily have to file for bankruptcy. There may be options that can help your business recover its footing and allow you to avoid bankruptcy. Some possible alternatives might be:

Debt restructuring.You can ask your creditors if they would be willing to renegotiate the terms of your loans in a way that would make them easier for you to repay. For instance, they might reduce your interest rate or extend your loan term, which could lower your monthly payments.

Debt consolidation. Business debt consolidation involves taking out a large loan to pay off all your current debts. This can simplify your payments but will save you money only if you obtain a lower interest rate or other more advantageous terms on the new loan.

Selling assets.If your company owns assets that aren’t necessary to its core operations, liquidating them could give you a cash infusion that might help you manage debts.

Reducing the size of your business. It may seem counterintuitive, but retrenching and limiting or even decreasing the services and/or goods your business offers may allow you to focus your efforts and control your costs more effectively.

The Takeaway

Though people may say they’re “bankrupt” when they are too broke to pay off their debts and obligations, that’s not the correct word. The right term is insolvent. In order to be bankrupt, the individual or business must first file a petition with the court declaring their bankruptcy.

Insolvency that can’t be resolved may result in bankruptcy. And, while filing for bankruptcy comes with a host of cons, it also provides a chance to make a fresh start, rebuild your credit, and once again have an opportunity to take out loans and lines of credit for yourself or your business.

If you’re seeking financing for your business, SoFi is here to support you. On SoFi’s marketplace, you can shop and compare financing options for your business in minutes.

FAQ

What do you lose if you have to declare bankruptcy?

When you declare bankruptcy, you may have to sell certain assets to help settle debts with your creditors. Additionally, the bankruptcy will be a negative mark on your credit report for seven years when you file Chapter 13 bankruptcy or 10 years when you file Chapter 7 bankruptcy.

How much debt do you need to be in to file for bankruptcy?

While there are eligibility rules for the different types of bankruptcy, federal bankruptcy law doesn’t specify any minimum debt amount to file a bankruptcy case.

What does financially insolvent mean?

Individuals or businesses that are financially insolvent either do not have the cash flow to cover their debts or have a total debt greater than the total value of their assets. Being Insolvent does not automatically mean that a person or business is bankrupt.

Can you be insolvent without filing for bankruptcy?

Yes, it’s possible to be insolvent but not file for bankruptcy. If you or your business faces insolvency, you may be able to cover your debts by selling unnecessary assets, consolidating your debt to get more favorable terms, or renegotiating your debt terms, if your creditors are willing.

What are the consequences of insolvency vs. bankruptcy?

Insolvency doesn’t have any defined consequences, though not paying your bills can impact your credit negatively and ultimately lead to bankruptcy. Declaring bankruptcy results in the court establishing a plan for you to pay some or all of your debts – which may require the sale of some of your assets – but will also appear on your credit report for a number of years.

Photo credit: iStock/golubovy

SoFi's marketplace is owned and operated by SoFi Lending Corp.
Advertising Disclosures: The preliminary options presented on this site are from lenders and providers that pay SoFi compensation for marketing their products and services. This affects whether a product or service is presented on this site. SoFi does not include all products and services in the market. All rates, terms, and conditions vary by provider. See SoFi Lending Corp. licensing information below.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

SOSMB-Q425-104