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Deciding on a Business Structure.
There are four common business structures to choose from; sole trader, partnership, company or trust. The structure you choose will significantly affect your business’ legal and operational risk, asset protection, tax obligations, legal costs and clientele. You can change structures to accommodate the growth of your business, but changing legal structures can often be very complex. It is important to think carefully early on about which structure is the right one for your business and best reflects your goals for the future.
When starting a business one of the first things you should consider is which structure is going to have the best long-term benefits and reflects your future goals. You will need to think carefully about:
1. the type of business you are going to run,
2. its risk profile,
3. plans for growth,
4. the involvement of others, and
5. how to come to decisions.
Each structure has different upfront and ongoing costs. A sole trader is the cheapest to establish, and more complicated structures, such as a trust with corporate trustee incur higher legal set up costs along with government fees.
The way that tax affects the different business structures will also factor into your decision. The profits made by sole trader businesses are considered personal income and are taxed as such. Trading companies pay 27.5% tax on their income but must keep financial records up to date and lodge annual tax returns and reports to ASIC. Using a trust structure may allow you to minimise tax, by streaming distributions to beneficiaries on lower tax rates.
Business Structure Sole Trader Partnership Company Trust
Expensive to register No No Yes Yes
Difficult to set up No No Yes Yes
Complete control over decision-making Yes No No No
Limited Liability No No Yes Yes
Easy to raise capital No Yes Yes Yes
Easy to dissolve or sell Yes Yes Yes No
Tax benefits No Yes Yes Yes
Can I retain all profits made? Yes No No No
Can I change structures easily? Yes No No No
Types of Different Business Structures.
Sole Trader is the simplest of the available business structures. As a sole trader, you manage and operate the business under your name. Such structure is cheap and easy to set up. However, it is not very flexible and will not accommodate a growing business. The sole trader structure is most suitable for contractors, tradies, entertainers, home businesses, online stores, websites and most small businesses. The majority of small business owners in Australia are sole traders.
A Partnership is an association of two or more people who carry on business as a partnership. A partnership structure can be set up simply and relatively cost-effectively. However, there are a number of disadvantages to the structure. Like a sole trader structure, partners are jointly and severally responsible for the debts of the business. Therefore, it is important to consider who you enter into a partnership with, as all partners are equally liable for the actions of the other partners. A partnership should have a partnership agreement in place which sets out how the partnership is to operate.
A Company structure is ideal when you are looking to grow and scale your business. A company is its own legal entity. Therefore, individual shareholders are only liable for debts or liabilities that the company incurs up to the amount unpaid on their shares (which is commonly zero). This limited liability makes the company structure suitable for high-risk businesses. The ability to raise capital and grow via the issue of shares makes the company structure the most suitable for startup businesses. Companies are regulated by the Corporations Act and must abide by their statutory obligations and Constitution or Replaceable Rules. If your company has more than one shareholder, you should have a shareholders agreement in place.
A Trust can be used to run a business. A trust will have an individual or corporate trustee. The trustee controls the trust and distributes profits to the beneficiaries of the trust, in accordance with the trust deed. If a trust has an individual trustee, the trustee will be personally liable for the trust’s debts. If a trust has a corporate trustee, the company’s shareholders receive protection by the company’s limited liability. A trust is not suitable if you require profits left in the business to help its scale, as a trust must distribute any income, or it will be taxed at the top marginal tax rate of 49%. Additionally, a trust may also require a unit holders agreement (if it is a unit trust) and a shareholders agreement (if it has a corporate trustee).