Ensuring your business’ success depends on a number of factors, including getting the structure right. The structure you choose depends on a number of different factors including the type of business, whether you plan to hire employees or have a partner, and what your plans for the long term are.
There are four types of business structures used in Australia. Each has their own advantages and disadvantages so it’s important to seek professional advice before making any final decisions.
A sole trader is the simplest business structure. From a legal viewpoint, there is no difference between the business and the owner, however it is possible to conduct the business under a separate name which needs to be registered with ASIC. The advantage is that the structure is inexpensive to set up as there are few legal and tax formalities required. You are also in complete control of the management and operation of the business. The disadvantage is you are personally responsible for any debt – the liabilities of the business are the liabilities of the individual. As such, you need to consider the exposure of your personal assets such as your home.
There are also a number of tax implications. If you earn more than $75,000, you must register for and pay GST. As a sole trader, the business income is treated as individual income and the business owner is responsible for any tax liable. As you are not an employee, you’re not responsible for any payroll tax or superannuation.
The next step up from a sole trader is a partnership. This is when 2 or more people enter into business together with a view to making a profit. It’s important to have a written partnership agreement in place to define each partner’s role in the business, share of profit, their expected financial contribution and procedures for dispute resolution.
The advantages of this structure are that there is access to more finance and the risks of the business are divided among the partners. There’s also the benefit of having a diverse range of talents in the business. However, a key disadvantage is that the partners are all liable for the business’ debts and liabilities. They are also liable should one partner do the wrong thing.
From a tax point of view, the partnership has its own Tax File Number (TFN) and must lodge an annual partnership return showing all income and deductions. The partnership doesn’t pay tax but the individual partners must pay tax on their share of the profit. As a partner in a partnership, you can’t claim deductions for money drawn from the business and these amounts are not wages for tax purposes.
Companies are complex business structures which are regulated by ASIC. They have higher set-up and ongoing costs due to their compliance requirements. The company is considered a separate legal entity to the owners (shareholders) and those who manage the company (directors) so can incur debt, sue and be sued just like an individual.
Due to the complexity and costs involved in setting up and managing a company, it’s best to seek advice from your business adviser, accountant and/or lawyer to see if this structure is best suited for your business. A company will provide some asset protection but directors may be legally liable for their actions and, in some cases, the debts of the company.
Trusts are relatively simple to form but the laws around them are quite complex. They can also be expensive as a formal deed is required and the trustee must undertake formal yearly administrative tasks. The trustee can be either an individual or a corporate entity. Their role is to hold certain assets in their own name but for the benefit of a group of individuals and/or entities referred to as beneficiaries. Trusts can provide a flexible means of distributing income and assets as well as assist in tax planning, tax minimisation and asset protection. A trust deed outlines how the trust will operate; it’s recommended you seek legal advice to have this drafted as, if this isn’t done properly, numerous problems can potentially arise.
A trust must have its own TFN and Australian Business Number (ABN) as well as be registered for GST if turnover is above $75,000. Trusts may be liable to pay tax, depending on the wording of the deed, as well as be able to access tax concessions. Beneficiaries may also be liable to make PAYG instalments on distributions they receive – seek advice from your accountant for more information.
Structuring your business in the most optimal manner is an important decision when starting out. You need to ensure the structure is best suited to the type of business you are in, to minimise tax and protect your assets. The requirements around compliance can be complex so, as always, seek professional guidance first.