Congratulations on deciding to start a new business. This is the start of a long journey and planning is crucial to success. It is important to choose the “right” business structure that suits your needs and achieves your goals, both short and long term. There is no “one structure fits all”. Sometimes a structure may be suitable at one stage of the business but you may need to switch later on. We introduce you to the most common business structures.
Sole Trader
A sole trader is a business where one individual owns, controls, and runs the business. This is the simplest business structure. Key features:
• Least costly to run from compliance and administrative viewpoint. You use your own TFN and apply for a personal ABN.
• Unlimited liability – Your personal assets are at risk if things go wrong (eg. lawsuit). You are legally responsible for all aspects of the business.
• You can employ staff in the business but you cannot employ yourself. Business profits that are attributable to you are not subject to employee costs such as workers’ compensation insurance, payroll tax, or superannuation guarantee. However, you are responsible for your own super and saving for your retirement.
• Business profits are included in your personal tax return and you pay tax at your marginal tax rates. You may be eligible for the small business tax offset.
• Business losses may be able to offset other income in your tax return.
• Depending on the size of the business and your needs, annual financial statements should be prepared.
• This structure is easy to close and wind up and can change to a different business structure when your business grows. There may be capital gains tax implications.
• This structure may be more suitable for those who work on their own and do not have employees or a relatively small business.
Partnership
A partnership is formed between a group of people who carry on a business together (ie. more than one business owner). A written partnership agreement should be put in place that addresses issues such as management and control of the business, distribution of income and losses, the future exit of a partner. This is a relatively simple and inexpensive structure to run. Key features:
• Partnership is required to apply for a TFN and ABN and lodge an annual partnership income tax return. The partnership does not pay tax, the individual partners do.
• Business income and losses are shared amongst the partners and reported in their personal income tax returns.
• Tax on partnership income is paid, by the partners, at their marginal tax rates and may be eligible for the small business tax offset.
• Partnership losses may be able to offset other income in your tax return.
• Similar to a sole trader, a partnership can employ staff but cannot employ the partners. Partners are personally responsible for their superannuation and saving for their retirement.
• Unlimited liability – individual partners are personally liable for the business, including any debts.
• Annual financial statements for the partnership should be prepared.
Company
A more complex business structure with higher setup and ongoing administration costs and reporting requirements. A company is a separate legal entity that is run by its directors and owned by shareholders. Companies are regulated by ASIC and must comply with the Corporations Act 2001. Key features:
• As a separate legal entity, a company has the same rights as a natural person and can incur debt, sue, and be sued.
• A company is governed by the Constitution and Corporations Act 2001.
• Limited liability and asset protection for the shareholders (ie. owners).
• Directors may be personally liable for the company’s debts (eg. non-payment of employee super and PAYG withholding tax) and can be penalised if there are breaches of the Corporations Act 2001.
• Company is required to apply for a TFN and ABN.
• Company is required to lodge annual income tax returns and maintain accounting/financial records. Annual financial statements for the company are required.
• Can employ staff, directors, and individual shareholders.
• Tax on profits is paid by the company at the relevant tax rates (27.5% to 30%). Losses are retained by the company and offset against future company profits.
• Distribution of profits to shareholders (owners) can be paid to them in the form of wages or dividends. This is declared in the shareholders’ income tax returns and tax paid at their relevant rates.
• Company income and assets belong to the company.
• There are tax implications for withdrawals by shareholders (in particular if the withdrawals are not being declared as income in the shareholders’ tax returns).
• Can be complex and costly to wind up and close.
Trust
A more complex business structure with higher setup and ongoing administration costs. A trustee is legally responsible for the operation of the trust and the trustee can be an individual or company. A trustee holds the trust assets/property on behalf of the beneficiaries (ie. owners). Key features:
• A trust must apply for its own TFN and ABN and lodge an annual income tax return.
• A trust should maintain financial/accounting records and annual financial statements should be prepared.
• The trust may be a “fixed trust” where beneficiary income and capital entitlements are fixed, as a company.
• The trust may be a “discretionary trust” where the trustee has the discretion to distribute income to the beneficiaries in the proportion the trustee decides. Income can be streamed to a number of beneficiaries.
• The trust may be a hybrid – a combination of fixed and discretionary.
• Can employ staff and individual beneficiaries.
• Beneficiaries include profit distributions from the trust in their tax returns and pay tax at their relevant tax rates.
• The trustee is responsible for tax for undistributed profits (at the highest individual marginal tax rate, currently 47%) or distributions to certain beneficiaries.
• Can be costly to wind up and close.
If you would like to learn more, the team at EMspire Advisory can help. Feel free to contact us today!
Please note that this information is not specific and is general in nature and cannot be relied on as advice. Please contact us for advice specific to you and your circumstances.