If someone comes to me wanting to host a domain.

Do I create a client using their name and put the domain under that, and then give them the user name/password for that client.

OR

Do I create a domain under the client of my own name and give them a username/password for that domain?

Is there anyway I can make password protected folders automatically overridable by admin or domain owners?

Well..that's up to you...and how much control you want to give your customers....

I personaly recommend giving them domain user access...unless you need them to have more then one domain under the same login...then make them a client...