One of the key decisions you will need to make when in business is which legal structure to use. Making the right decision on your structure can have far reaching consequences The right structure will depend on the size and type of business, along with your personal circumstances. When deciding on a structure for your business, it is important to choose the one that best suits your business needs, keeping in mind that there are advantages and disadvantages for each structure.
It’s important to investigate each option carefully, as choosing your business structure is an important decision.
Your business structure can determine:
- the licenses you require
- how much tax you pay
- whether you’re considered an employee, or the owner of the business
- your potential personal liability
- how much control you have over the business
- ongoing costs and volume of paper work for your business.
The four main business structures commonly used by small businesses in Australia are:
- Sole trader: an individual trading on their own.
- Partnership: an association of people or entities running a business together, but not as a company.
- Trust: an entity that holds property or income for the benefit of others.
- Company: a legal entity separate from its shareholders.
A sole trader business structure is a person trading as the individual, legally responsible for all aspects of the business including any debts and losses, which can not be shared with others.
This is the simplest, and relatively most inexpensive business structure that you can choose when starting a business in Australia. As a sole trader, you will generally make all the decisions about starting and running your business, although you can employ people to help you.
Key aspects of a Sole Trader structure:
- Is simple to set up and operate.
- Gives you full control of your assets and business decisions.
- Requires fewer reporting requirements and is generally a low-cost structure.
- Allows you to use your individual Tax File Number (TFN) to lodge tax returns.
- Has unlimited liability – all your personal assets are at risk if things go wrong. Your assets can be seized to recover a debt.
- Any losses incurred by your business activities may be offset against other income earned (such as your investment income or wages). Subject to certain conditions.
- Does not require a separate business bank account, unlike a company structure. You can use your personal bank account but must keep financial records for at least 5 years.
- As the business owner, you are not considered an ’employee’ of the business. You should pay yourself, which is usually a distribution of your profit, but this is not consider ‘wages’ for tax purposes.
- If you are a business owner without employees, there is no obligation to pay payroll tax, superannuation contributions or workers’ compensation insurance on income you draw from the business. You can choose to make voluntary superannuation contributions to yourself though, to help you build up your superannuation.
- You can employ people to help you run your business. There are compulsory obligations that you must comply with, such as workers’ compensation insurance and superannuation contributions.
- It’s relatively easy to change your business structure if the business grows, or if you wish to wind things up and close your business.
- You can not split business profits or losses made with family members and you are personally liable to pay tax on all the income derived.
A partnership is a business structure that involves a number of people who carry on a business together. You may choose a partnership over a sole trader structure for example, if you’ll be jointly running the business with another person or a number of people (up to 20).
Key aspects of a Partnership structure:
- It is relatively easy and inexpensive to set up.
- It requires a separate Tax File Number (TFN).
- If you are carrying on an enterprise, you can apply for an Australian Business Number (ABN), but this is not compulsory.
- It is not a separate entity – like a sole trader, you and your business partners are personally liable for the debts of the business.
- You have shared control and management of the business with your partners.
- The partnership does not pay income tax on the income earned. You and each of your partners pay tax on the share of the net partnership income you each receive.
- Requires a partnership tax return to be lodged with the Australian Taxation Office (ATO) each year.
- Each partner is responsible for their own superannuation arrangements – you are not an employee of the partnership.
- You must be registered for GST if the annual income turnover is $75,000 or more.
A trust is an obligation imposed on a person – a trustee – to hold property or assets (such as business assets) for the benefit of others, known as beneficiaries.
Setting up a trust can be expensive, as a formal deed is required and there are formal yearly administrative tasks for the trustee to undertake. A trust deed outlines how the trust will to operate. A trustee is legally responsible for the operation of the trust. The trustee can be an individual or company. Profits from the trust are distributed to beneficiaries
Key aspects of a Trust
- Can be expensive to set-up and operate.
- Requires a formal trust deed that outlines how the trust operates.
- Requires the trustee to undertake formal yearly administrative tasks
- If you operate your business as a trust, the trustee is legally responsible for its operations. A trustee of a trust can be a company, providing some asset protection. trust must have its own TFN for lodging its annual tax return and must show all income and deductions of the business, plus any distributions to its beneficiaries
- A trust must have its own ABN
- A trust must be registered for GST if annual turnover is $75,000 or more ($150,000 for non-profit organisations);
- A trust may be liable to pay tax depending on the wording of its deed and whether any income the trust earns is distributed to its beneficiaries;
- The trust may be able to access tax concessions;
- Beneficiaries of the trust may be liable to make Pay As You Go (PAYG) instalments on distributions they receive from the trust.
- The trust must pay super for any of its employees. This may include the trustee if they are also employed by the trust.
A company is a separate legal entity, unlike a sole trader or a partnership structure. This means the company has the same rights as a natural person and can incur debt, sue and be sued. The company’s owners (the shareholders) can limit their personal liability and are generally not liable for company debts.
A company is a complex business structure, with higher set-up and administrative costs because of additional reporting requirements. You need to register a company with the Australian Securities and Investments Commission (ASIC). Company officers and directors must comply with legal obligations under the Corporations Act 2001.
Key aspects of a Company structure
- Is a separate legal entity.
- Has limited liability compared to other structures.
- Is a more complex business structure to start and run.
- A company must apply for a Tax file Number (TFN) and use it when lodging its annual tax return.
- Is entitled to an Australian Business Number (ABN)
- Involves higher set up and running costs than other structures.
- Requires you to understand and comply with all obligations under the Corporations Act 2001.
- Means that business operations are controlled by directors and owned by the shareholders.
- Must be registered for goods and services tax (GST) if the annual GST turnover is $75,000 or more. The registration threshold for non-profit organisations is $150,000.
- The money the business earns belongs to the company, not the individual.
- Companies usually make Pay As You Go (PAYG) instalments, credited against total annual income tax. The amount of tax it is liable to pay is reduced by any PAYG instalments paid during the year;
- There is no tax-free threshold for companies;
- Requires an annual company tax return to be lodged with the ATO.
At Nick Xenophon & Co. lawyers we can advise you on the most appropriate business structure based on your own individual circumstance, ensuring optimal financial and legal outcomes now and into the future. To show you how we can provide you with practical cost-effective solutions and add value to your business, we offer you a free no-obligation initial consultation with one of our experienced business lawyers.
Call us now to talk about your Right Legal Structure for Your Business on a no obligation basis. You have nothing to lose and everything to gain.