When starting a business, you will need to decide which of the 4 business structures is best for your business.
Some things you may like to consider as part of this decision includes your personal circumstances and who will be the key operator of the business
Making the right decision from the onset is critical because the structure you choose can impact:
- the business registration process
- your tax position
- the safety of your personal assets and/or
- the continuity of the business upon change of ownership.
Without trying to scare you…. it can also influence whether your business succeeds or fails.
Choosing the wrong structure during start-up is also a common mistake that many new business owners make, leading to numerous tax implications and some BIG fees if it needs to be changed.
In Australia, there are 4 main types of business structures:
- Sole Trader
Here’s a little visual to give you some idea of what they mean:
Let’s explore each of these in more depth so you get a clear understanding of the differences, advantages and downsides.
Business Structure Advantages and Disadvantages
1. Sole Traders
The Sole Trader structure is suitable for small-scale business operations, particularly those based on the owner’s personal talents.
They can often trade under their own name (e.g. Jenny Green), or can register a business name (Jenny Green’s Bakery).
Sole Traders are liable for taxation on business income which is included their annual Personal Income Tax Return and taxed at marginal rates.
- Owner has direct control over the business and is entitled to all of its success
- Low costs and minimal legal procedures to start up business
- As the business grows you can change structure relatively easily
- Greater privacy
- Easy to disband
- Due to trading alone, Sole Traders bear full responsibility for any liabilities arising out of the business.
- This can extend to the owner’s personal assets to pay business debts.
- The Sole Trader has to pay the tax on all the profits.
With a Partnership, the business is typically conducted by 2 or more people, who have the authority as the Owners or Principles of the business.
The partners share the costs, profits and losses of the business, however, the partnership does require its own Tax File Number.
Developing a Partnership Agreement is always recommended, to set out the terms and conditions of the Partnership, as well as the duties of each partner.
The Partnership name (if other than the partners’ own names) must be registered under the Business Name Act.
- Allows a combination of different skills
- Can receive some tax advantages
- Usually the Partnership is automatically dissolved on the death of one of the partners
- The taxable income or loss of the Partnership is distributed, as per the Partnership Agreement. If no agreement exists, it will be divided equally between the parties.
- The liability of the partners is unlimited, and extends to their private property and Partnership assets.
- In regards to taxation, a Partnership is required to lodge an Income Tax Return.
- Each partner is responsible for the other partner’s share of the business liability.
3. Companies (Pty ltd)
There are 2 types of companies: Public company and a Private Company. Private Companies are generally the most popular.
A Public Company can be listed on the Stock Exchange or as an unlisted Public Company (not listed on the Stock Exchange.) Shareholders own the Company and Directors are appointed to run the business.
Like a Partnership, a Company must also have its own Tax File Number.
- Liabilities are limited to the Company’s assets only. It will not extend to the owner’s assets (with some exceptions)
- All profits are taxed at one tax rate.
- A more complicated and expensive structure to set up due to compliance costs
- There are additional legal and financial reporting obligations
- It is not suitable for all business start-ups
4. Trusts (Discretionary & Unit)
This is where the business is transferred to a third party who has legal control to run the business, and who distributes income and/or capital between the relevant Beneficiaries.
There are 2 types of Trusts: Discretionary and Unit Trusts.
Like a Company and Partnership, a Trust needs to have its own Tax File Number. It is also recommended to have a Trust Deed, which sets out the powers of the Trust, and formalises its administration.
- Can be used to hold property (capital) for Beneficiaries
- There is flexibility of income distributions (Discretionary Trust).
- Discretionary Trusts offer the greatest level of asset protection.
- Can be difficult to dismantle
- Need to lodge a separate Tax Return for the Trust
- Beneficiaries pay Personal Income Tax on their income distributions from the Trust.
Business Structures – Common Q&A’s
So, which structure should you choose?
The best answer: It depends…
It’s best to seek advice from an accountant before making any decisions relating to business structures.
As your accountants, we can ensure that your business structure helps to:
- Maximise personal asset protection
- Minimise tax exposure
- Comply with all legal requirements, and/or
- Allow for the admission of new partners or investors into the business (if relevant)
- Have future entitlement to Discount Capital Gains Tax Concession (if relevant)
Our team of accountants are experts in Business Structuring.
We can help explain types of business structures in simple laymen’s terms and identify which structure is best for you and your business.
If you’d like to come in to discuss business structures in more detail, give us a call on (03) 9762 7344.
Otherwise, we hope his article has been helpful and educated you about the different types of business structures in Australia.