The most common clients you will encounter are natural persons, meaning individual human beings (as opposed to legal entities like corporations or trusts). This section covers the simplest client structures: individual accounts and sole proprietorships.
Natural Persons and Individual Accounts
- A natural person is a human being, distinguished from artificial legal entities such as corporations, trusts, or partnerships
- Individual accounts are the simplest account structure: one person owns the account
- The account holder has full control over investment decisions and account activity
- At death, assets in an individual account pass through probate (the court-supervised process of distributing a deceased person's estate)
Exam Tip: Gotchas
Individual account assets go through probate at death. This is a key reason clients may prefer trusts, which can avoid probate entirely.
Sole Proprietorships
A sole proprietorship is an unincorporated business owned and operated by one person. It is the simplest form of business entity.
Key characteristics:
- No legal separation between the owner and the business; the owner is the business
- Unlimited personal liability: The owner is personally responsible for all business debts and obligations. Creditors can pursue the owner's personal assets (home, car, savings) to satisfy business debts
- Tax treatment: Business income and losses are reported on the owner's personal tax return using Schedule C (Form 1040). There is no separate business tax return
- Pass-through taxation: Profits are taxed only once, at the individual level, avoiding double taxation
- The owner also pays self-employment tax (Social Security and Medicare) on net business income
| Feature | Individual Account | Sole Proprietorship |
|---|---|---|
| Owner | Natural person | Natural person (one owner) |
| Liability | N/A (personal account) | Unlimited personal liability |
| Taxation | Personal return (1040) | Schedule C on personal return (1040) |
| Legal separation | N/A | None; owner = business |
| At death | Assets go through probate | Business ceases to exist |
Exam Tip: Gotchas
A sole proprietorship is not a separate legal entity. If the owner is sued, personal assets are at risk. This unlimited liability is the primary disadvantage compared to LLCs and corporations.