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Choosing a business structure
There are 4 main types of business structures used in conducting business in Australia, each with their own advantages and disadvantages - a sole trader, a partnership, a company or a trust.
The choice of business structure is an important decision to make before the business venture commences, as the structure can impact on tax implications and reporting requirements during the lifetime of the business. When setting up a business structure, consideration should be given to factors such as how many people will be involved in the business, what the business will do, and risks, how much income is likely to be earned from the business and the intended growth of the business.
Sole Trader
Anyone can carry on a business on his or her own behalf, or under a registered business name, as a sole trader. Income earned as a sole trader is taxed at the usual individual tax payer rates.
This is the simplest form of business structure, with low establishment costs and minimal legal and compliance requirements. The main disadvantage of this type of business structure is that a sole trader is personally liable for all obligations incurred in the course of the business, and this can impact on other assets owned, including the family home.
Partnership
Two or more individuals (or companies, or trusts, or any combination of entities) can carry on business in partnership, with the income from the business being received jointly in whatever proportion the parties agree. Partnerships are relatively inexpensive to form and operate. Most partnerships are established by a partnership agreement which sets out the rights and obligations of the partners. A partnership itself is not taxable, but each partner pays tax on their share of the net income of the partnership.
One downside to this type of business structure is that partners are severally and jointly liable for the obligations and liabilities of the partnership. There is also potential for dispute and loss of trust between the partners.
Trust
A Trust is not in fact an entity, but a set of rights and obligations binding the trustee, beneficiaries and trust property. Under a trust, a trustee owns the property or assets of the trust and carries on the business on behalf of the beneficiaries of the trust. A trustee can be one or more individuals, or a company. A formal Deed is required to set up a trust and there are annual tasks for a trustee to undertake. Accordingly, it can be initially expensive and more complicated to set up and administer a trust.
Advantages of conducting business via a trust include flexibility in income distribution (including income that can be streamed to low income tax beneficiaries to take advantage of their lower marginal tax rate) and that assets can be protected with a properly drafted Deed.
Company
A company is a separate legal entity capable of holding assets in its own name. The words “Pty Ltd” after a business name show that the business is a registered legal entity, which trades in its own right. A company is owned by shareholders, and directors manage the company’s day to day business and affairs. The shareholders of a company can receive any company profits in the form of dividends. Shareholders can limit their personal liability and are not generally liable for the company’s debts, with the financial liability of the company being limited to the company assets.
Companies are governed by the Corporations Law which imposes various duties and obligations on company directors. Critically, directors have an obligation to act in the best interests of the company. Establishment of a company and ongoing administrative and compliance costs associated with the Corporations Law can be high, and there is also a requirement to publicly disclose key information.
Conclusion
Each business has different requirements, and potential risks, and business owners’ circumstances vary. It is essential that you to talk to an accountant or solicitor about the costs and risks of each business structure to ensure that the business structure used is the right one for your business and its future needs.
If you or someone you know wants more information or needs help or advice, please contact us:
Ken Waddington
Partner
(07) 5443 4866