Can you change your business structure?
Are you starting a new business? Are you looking at changing your current business structure to fit your growth?
Setting up your business under the right structure is in our top three most important tasks when you’re starting out. The other two are having a business plan and getting an accountant 😉. There are four business structures that you can choose from, each with their own advantages and disadvantages. They are sole trader, partnership, company and trust. We’ll go through each one so you can make the most informed choice, but we strongly recommend discussing it with your accountant who can assist you with this process.
Sole trader
If you’re riding solo, this is the simplest and cheapest business structure to set up. It doesn’t have a lot of legal and tax regulations and the profits are recorded on your individual tax returns. Freelancers who earn under $18k often adopt this business model to take advantage of the tax-free threshold. You have the option to hire others but you cannot employ yourself. Your tax brackets and obligations are exactly the same as those for individuals, unless you’re earning 75k+, which means you’ll have to register for GST and pay BAS statements too.
| Sole trader | |
|---|---|
| Set up costs | None, other than registration for a business name (if applicable) – $37 (1 year) or $88 (3 years). Business bank account establishment – bank fees if any. |
| Licence and registration | Register for an Australian Business Number (ABN). Register a business name with the Australian Securities and Investment Commission (ASIC) (if applicable). |
| Record keeping | Your financial records, including your tax returns, must be kept for 5 years. If you have any business changes, you must notify the government agency within 28 days. |
| Business income | The income from the business is also your individual income, so you are responsible for the tax obligations. Money can be withdrawn from the business at any time. |
| Business debt liability | You have personal unlimited liability. Your assets can be used to cover the business debt. |
| Insurance | The type of insurance you need for your business will depend on its activities, i.e. whether you sell products/services and if you employ people. As you are not covered by workers’ compensation insurance, you should consider insurance for personal injuries and disability & death. If you employ others you will need workers’ compensation insurance. |
| Accessing money from your bank | You can take money out of your business account as personal drawings. |
| Control of business | You have full control of the business. |
| Ongoing costs | Updating your business name: $37 (1 year) or $88 (3 years). Any ongoing accounting fees. |
| Closing your business | Within 28 days, you need to cancel your ABN and your business name. |
| Employing people | Ensure that you: – provide workers’ compensation insurance – pay employee payroll tax and PAYG – provide superannuation for eligible staff – understand your tax obligations – know what your employees are entitled to |
Pros
- You’re solely responsible for the business so you have all the control and independence
- Easy and low cost
- You take all the profits
- You can carry over a tax loss to the next financial year and deduct it against income for tax purposes
- A tax-free threshold of $18,200 (for 2020–21 financial year)
- You don’t need to make a separate bank account (but it is recommended that you do)
Cons
- You have unlimited liability (your personal assets may be at risk)
- You carry all the risk and reward
- High personal income tax rates (up to 47%)
Partnership
If you want to have a partner in crime but keep costs low, a partnership structure is the one for you. As the name suggests, a partnership involves two or more people running the business together and sharing the profits. You can go into business with up to 20 people under this structure. Just like a sole trader structure, your business is not a separate entity from the owners. There are two types of partnerships – general and limited. Here we focus on a general partnership.
| Partnership | |
|---|---|
| Set up costs | Registration for a business name – $37 (1 year) or $88 (3 years). Cost of a good lawyer to set up a partnership agreement. We recommend Domantay Legal. Business bank account establishment – bank fees if any. |
| Licence and registration | Register for an Australian Business Number (ABN). Register a business name with the Australian Securities and Investment Commission (ASIC). |
| Record keeping | Your financial records, including your partnership tax returns, must be kept for 5 years. If you have any business changes, you must notify the government agency within 28 days. |
| Business income | Profit is distributed based on the partnership agreement after the partnership tax return assessment. Each partner is responsible for paying tax on the shares they receive of the net partnership income. |
| Business debt liability | All partners have unlimited liability. Your assets can be used to cover business debt incurred by you or your partners. |
| Insurance | The type of insurance you need for your business will depend on its activities, i.e. whether you sell
products/services and if you employ people. As you are not covered by workers’ compensation insurance, you should consider insurance for personal injuries and disability & death. If you employ others you will need workers’ compensation insurance. |
| Accessing money from your bank | Similar to a sole trader, you can take money out of partnership earnings as per partnership split, e.g. 50/50. |
| Control of business | Control and management are shared between partners based on the partnership agreement. |
| Ongoing costs |
Updating your business name:
$37 (1 year) or $88 (3 years). Any ongoing accounting fees. |
| Closing your business | Usually any partner can dissolve the partnership, depending on the agreement. All partners must sign a notice, which is placed in a Government Gazette and in at least one newspaper of the districts the business operates in. Otherwise the partner exiting may be sued for debts of the remaining partners. |
| Employing staff |
Ensure that you: – provide workers’ compensation insurance – pay employee payroll tax and PAYG – provide superannuation for eligible staff – understand your tax obligations – know what your employees are entitled to |
Pros
- Low cost and easy to operate
- Share the profits and losses with other co-owners
- Opportunity for income splitting
- Limited external regulation
- Easy to change legal structure later
- A tax-free threshold of $18,200 (for 2020–21 financial year)
Cons
- Unlimited liability of the business debts
- All partners are ‘jointly and severally’ liable for debts incurred by other partners
- Risk of disagreement and conflict among partners which may interfere with business operations
- All partners must agree to the transference of ownership to someone outside of the partnership
- High personal tax rates (up to 47%)
Company
If you want your business to be a separate legal entity from you, the company business structure is one to consider. While it’s more expensive to set up and complicated to run, a company is a separate legal entity so there are lots of advantages to it. You can be a solo director and member, or have many members in the form of shareholders who own the business with you.
As a proprietary company, you can have a maximum of 50 non-staff shareholders and be limited by shares. This means that your shareholder’s liability is limited by the value of their shares. If you list your company as public, everyone can purchase shares to invest in the company.
| Company | |
|---|---|
| Set up costs | Reservation of a company name – from $52 Company registration (Pty Ltd) – $512 ASIC FEE Registration for a business name (if applicable) – $37 (1 year) or $88 (3 years) Business bank account establishment – bank fees if any Get in touch with us for a quote if you need help setting up. |
| Licence and registration | Australian company number (ACN) – unique 9-digit number issued by ASIC Australian Business Number (ABN) – can be used in place of ACN Tax File Number (TFN) – a company must have its own TFN for lodging tax returns Goods and services tax (GST) – a company must register for GST if its turnover is $75,000 or more |
| Record keeping | Tax records (lodged by the company) must be kept for at least 5 years, financial records for a minimum
of 7 years. These are subject to an annual review by the ASIC Financial records – Accurate financial statements – Transactions and company financial performance is recorded and explained Records demonstrating your legal requirements and compliance, i.e. having – a registered officer – business location – regular company meetings & a written record of them If you have any business changes, you must notify the government agency within 28 days |
| Business income | The income belongs to the company so a separate business bank account is mandatory. As the owner, you can take money from the company in the form of a wage, director fee, or dividend. If you take money any other way it will cause a Division 7A – Loans. There’s no tax-free threshold and the full tax rate is 25%. The company can pay you, the director, wages or a director’s fee. This must be reflected in your individual tax return. |
| Business debt liability | Liability is limited, however if you’re the director of the company, you may be at risk of being personally liable if the company cannot pay its debts. |
| Insurance | The type of insurance you need for your business will depend on its activities. Directors liability insurance may be considered. |
| Accessing money from your bank | A separate company bank account is mandatory. ‘Personal drawings’ are not allowed and directors are paid through a salary or a directors fee. Income can also be received through shares and dividends. |
| Control of business | You have full control if you are a sole director of the company. If there is more than one director, management must be in line with the company’s constitution. |
| Ongoing costs | Fees may apply depending on your business operations. ASIC annual review fee must be paid to keep the
company registered. Updating your business name: $37 (1 year) or $88 (3 years). Any ongoing accounting fees. |
| Closing your business | You must follow a formal deregistration process. |
| Employing people |
Ensure that you: – provide workers’ compensation insurance – pay employee payroll tax and PAYG – provide superannuation for eligible staff – understand your tax obligations – know what your employees are entitled to – register for State Payroll Tax if your wages are above the state’s threshold |
Pros
- Limited liability for shareholders
- Shareholder ownership can be easily transferred by selling shares
- Family members can be employed by the company
- A company can trade anywhere in Australia
- Capital is easier to attract due to limited liability
- Capped tax rate of 25% for small business entities under $50m turnover
Cons
- Complex business structure that is relatively expensive to establish and operate
- Many reporting requirements
- Your company’s financials are public
- Shareholder profits are taxable
Trust
Another complicated business structure where a trustee (a person or a company) holds and operates the business assets for the benefit of the beneficiaries, usually the business owner(s), and distributes yearly profits to them.
| Trust | |
|---|---|
| Set up costs | Registration for a business name (if applicable) – $37 (1 year) or $88 (3 years) Cost of a solicitor/accountant to draw up a trust deed Additional cost to form a Corporate Trustee (company) – $512 ASIC Business bank account establishment – bank fees if any Get in touch with us for a quote if you need help setting up. |
| Licence and registration | Australian company number (ACN) – unique 9-digit number issued by ASIC (if using a company as
trustee). Australian Business Number (ABN) – trustee must register for an ABN for the trust. Tax File Number (TFN) – the trust must have its own TFN for lodging tax returns. Goods and services tax (GST) – the trust must register for GST if its turnover is $75,000 or more. |
| Record keeping | Your financial records, including your partnership tax returns, must be kept for 5 years. If you have any business changes, you must notify the government agency within 28 days. |
| Business income | Profits belong to the trust, subject to be distributed to the beneficiaries. |
| Business debt liability | Limited liability. |
| Insurance | The type of insurance you need for your business will depend on its activities. Directors liability insurance may be considered. |
| Accessing money from your bank | Profits are distributed to the beneficiaries, which are controlled by the trustee. |
| Control of business | The business is operated strictly under the trust deed, which illustrates the trust’s power and formalises its admin. |
| Ongoing costs |
Updating your business name:
$37 (1 year) or $88 (3 years). Annual ASIC fees for company registration (currently $276 but increases each year) Any ongoing accounting fees. |
| Closing your business | It can be closed with the consent of the beneficiaries. |
| Employing people |
Ensure that you: – provide workers’ compensation insurance – pay employee payroll tax and PAYG – provide superannuation for eligible staff – understand your tax obligations – know what your employees are entitled to – register for State Payroll Tax if your wages are above the state’s threshold |
Pros
- Limited liability
- Asset protection in case of bankruptcy
- Tax maximisation: no significant tax consequences for accumulation of assets or capital for beneficiaries
- Distribution of income among beneficiaries can be flexible
Cons
- Complicated to set up and must strictly operate under the conditions of outlined in the formal trust deed
- Relatively expensive to establish and operate due to the complex nature, subject to higher compliance costs
- Capital losses have to be funded with after-tax income
- Trusts have a shelf-life of 80 years
Each business is unique and your financial position and business financial planning will determine which structure would work best for you. While it’s important to get it right from the start, circumstances evolve and you can alter your business structure down the line accordingly.
There’s a lot to digest there but we’re here to help and talk it through with you. We have the expertise to give you advice on the best structure and help you set it up the right way. Get in touch!
