What is EIN?
An Employer Identification Number (EIN) is also known as a Federal Tax Identification Number, and is used to identify a business entity. Generally, businesses need an EIN. You may apply for an EIN in various ways, and now you may apply online. This is a free service offered by the Internal Revenue Service and you can get your EIN immediately. You must check with your state to make sure you need a state number or charter.
When an EIN is and isn’t required?
Many people associate EINs with big corporations, but even a freelancer or the owner of a very small business might need an EIN to file business taxes and for other purposes. If you do need a business tax ID, the best practice is to get one as soon as you open your business, as part of your business launch checklist.
The following types of businesses must get an EIN for tax purposes:
- Any type of business entity with employees (including sole proprietors).
- Corporations and any entity taxed as a corporation.
- Multi-member LLCs.
- If you buy a business or inherit a business.
- If you have a Keogh plan or solo 401(k) retirement plan.
- If you file for bankruptcy.
For further assistance determining if you need an EIN, check out the IRS’ questionnaire.
Unless you meet any of the descriptors above, you most likely don’t need an EIN. That means millions of sole proprietors, including freelancers, technically don’t need an EIN. But there are plenty of reasons to get one anyway.
9 Benefits of EIN
1. File business taxes and avoid tax penalties
If you don’t have your EIN by tax day and were supposed to get one, you have to fill out specific paperwork to notify the IRS. If you forget to do that, the IRS might not accept your filing, and you could face penalties for a late return.
Plus, for certain types of tax deductions, such as home office deductions, your chances of an IRS audit decrease if you have an EIN.
“If the business owner has any desire to get tax benefits from owning and running a business in-house, such as wanting to deduct a room as an office, then having an EIN will help them make that case better and more effectively,” says attorney Janet Gershen-Siegel. “Personal office deductions have a tendency to bring on IRS audits. Why not make your case before you have to?”
2. Prevent identity theft
You might be surprised to learn that getting an EIN is an effective way to help prevent identity theft. An EIN separates your personal finances from business finances. Once you have an EIN, you don’t have to provide your personal Social Security number to clients or vendors who you do business with. Instead, you can provide your EIN.
Providing your EIN means you can keep your Social Security number more private, lowering the chances of a thief stealing it and getting access to your hard-earned profits. Thieves do steal EINs as well, but the problem isn’t as widespread as consumer identity theft — at least so far.
3. Add credibility as a freelancer or independent contractor
For freelancers and independent contractors, losing even one client can make a big financial difference. You want to do everything you can to cement your status as a legitimate business owner. When you take on a client, you’ll have to provide either a Social Security number or EIN to them, so they can furnish you a 1099 tax form.
Having an EIN adds more credibility and signifies that you have a serious business, as opposed to something you’re just doing as a side gig. According to Gershen-Siegel, “Occasionally selling stuff or providing a service, and doing so without an EIN, can give a business owner a feeling that what they’re doing isn’t really a business, per se. That they can quit at any time, no big deal. It’s a way to kind of not ‘go all in.’ But with an EIN, you’ve told the IRS (and, effectively, the world) that you’ve got a business and not a hobby.”
In addition, having a business tax ID proves that you’re an independent contractor, rather than an employee, and that’s attractive to companies who’d want to hire you. Companies conserve money and minimize legal responsibilities by hiring independent contractors, so any evidence in support of your status as an independent contractor can help you attract clients.
4. Speed up business loan applications
You can speed up the process of applying for a business loan if you have an EIN. Most lenders don’t explicitly require one. As long you have any necessary business permits or licenses and are legally qualified to do business, you can apply for the loan.
The catch is that many lenders require applicants to have a business bank account with a certain number of deposits. This is to ensure that you have a place to receive the loan funds and make periodic loan payments. To get a business bank account, you often need an EIN.
In addition, some lenders, including SBA lenders, check business credit when evaluating your loan application. Having an EIN helps you build business credit, without which you might not be eligible for the loan (more on this later).
5. Open a business bank account
Some banks allow sole proprietors to open a business bank account without an EIN, but others have stricter policies. Bank of America checking and savings accounts, for instance, require proof of EIN from sole proprietors and all other types of businesses.
Along with your EIN, you’ll need to provide a few other documents to open a business checking or savings account. These include your business’s formation date, business location, legal business name and personal information about the owner. And once you open a business bank account, make sure the only money going into or out of the account is for business purposes.
6. Build trust with vendors
As a small-business owner, it’s not possible to do everything by yourself while building your company. You often have to rely on vendors, suppliers and partnerships with other businesses to achieve your goals. Having an EIN makes such third parties more likely to work with you.
These parties might want to check your business credit before signing up to work with you. Wholesale distributors often require an EIN check before they’ll do business with a retailer. Having an EIN shows that you have a credible business and are a responsible person who will pay the vendor on time.
7. Establish business credit
An EIN is key to establishing a business credit history. Business credit history is similar to your personal credit history. But instead of measuring your personal financial habits, business credit evaluates your company’s history of bill payment and financial responsibility.
Your business has a commercial credit report. Similar to what’s contained in a consumer credit report, a commercial or business credit report contains a summary of your business’s credit accounts and payment history. Loans, business credit card activity and payments to vendors and suppliers show up on your business credit report.
Anytime you apply for credit by providing your EIN, that account will show up on your business credit report. If you’re on time with that account, your business credit score will see a boost, which can help you qualify for good rates on business loans and favorable terms from suppliers.
8. Easily hire employees
If you have employees or are on the verge of hiring employees, then you need an EIN. But even if you have no immediate plans to hire employees, getting one is a good idea if you think you might at some point in the future. That can be difficult to predict, but if you plan to scale your business to the point where you might need an extra set of hands, getting an EIN doesn’t hurt. An EIN lets you set up a payroll system as soon as you hire your first employee, without any delays in the hiring process.
9. Get more options as an overseas entrepreneur
Having an EIN can be particularly helpful for starting a business if you’re a non-U.S. citizen without a Social Security number. Foreign nationals can apply for an EIN by contacting the IRS. With an EIN in hand, you might be able to apply for a business credit card or open a business bank account before you get a Social Security number. This gives you some headway in launching your business and might even give you a competitive advantage if you need to move quickly.
Does your EIN ever change?
Once you obtain your EIN from the IRS, it’s effective immediately. You can start using it right away to apply for loans, open a bank account or to provide to a vendor. In most cases, your EIN will remain with you throughout the course of your business.
However, if the structure or ownership of your business changes, then you’ll need a new EIN. For instance, if you have a sole proprietorship but later decide to incorporate, you’ll need a new EIN. Similarly, if you decide to bring a partner on board, you’ll need a new EIN to reflect that change. However, smaller changes, such as changing your business name or adding a new business location, don’t require a new EIN.
And if you ever lose or misplace your EIN, don’t worry. Looking up your business tax ID number is pretty simple. You can locate your EIN on old tax papers or contact the IRS for assistance.
