STEP 6

Choose a Business Structure

Setting up budgets

This is a key decision that you will make when starting a business. This choice will impact how much tax you pay, whether you can sell shares, your personal liability and both setup and ongoing costs.

Business Structure

Choosing the right legal structure is a necessary part of starting a business. It is important to understand all your options. In Australia, there are four main types of commercial business structure. These are:

      • Sole Trader
      • Partnership
      • Company
      • Trust

There are others such as Co-Operatives or Incorporated Associations but we will not look at these here.

The type of structure that you choose will depend on a number of different factors including:

      • the type and size of your business
      • your personal circumstances
      • your ability to manage the admin and paperwork, and
      • the likely future growth of the business.

If you are starting to get bigger or you’re taking on more riskier projects then it might be a sign that you might need to make a change. You aren’t locked into one structure forever. When the business grows or circumstances change, then you need to change as well. This will come at a cost and you will need expert help with this, especially where assets and contracts are involved.

It is a great idea to discuss choice of structure with an accountant, lawyer or business advisor before starting your business. You can find them in our directory.

Type of Structure

The structure you choose will be the one that has the greatest long term benefit and reflect the future goals that you have about your business.

Each structure has different upfront and ongoing costs. Tax and access to government programs may also affect your decision. Profits earned by a sole trader are treated as personal income and taxed like that. Whereas a company is taxed separately at a flat tax rate.

%

of Australia business owners are sole traders with no employees (ASBFEO 2019)
Sole Trader

A sole trader is the simplest form of business structure. You manage and operate the business by yourself, under your own name.  This structure is the cheapest and easiest to setup. It is not very flexible and all profits are taxed on your own personal tax return.

As a sole trader you have no special legal status. You are the business. This means that there is no distinction between the assets of the business and your own personal assets. If the business takes on debt or gets into legal trouble, so do you.

Partnership

A partnership is owned by two or more entities. The partners could be people or it might be a company. Setting up a partnership is straight forward and relatively cost-effective.

The partners choose how the split is to be made and it doesn’t have to be equal. The ‘rules’ of the partnership should all be set out in a partnership agreement.

You will need to do a separate partnership tax return. The share of that net partnership income then gets declared on their personal return. There can be a difference between what you receive from the partnership in cash and what gets shown as your taxable income.

Just like a sole trader, a partnership has no special legal status. The partners are jointly responsible for the debts of the business. And actions of one partner will bind the other which means that both partners are equally responsible for the actions of the other. This makes it really important to know who you are going into partnership with.

Partnership agreement

This sets out how a partnership will operate. Once you start asking questions, even a simple agreement can become complicated and long. It saves a lot of issues in the long run to just do it right, right from the start. The agreement needs to document how ownership and control will be divided between the partners.

The types of things that you should cover in a partnership agreement include:

      • Legal Name of the Partnership
      • What the partnership will do
      • The full legal names of each of the partners, their address and contact details
      • Be clear about what percentage of the partnership business each partner owns
      • Decide on the partnership decision making process
      • Decide on how and when profits will be distributed
      • Have a process for managing the bookkeeping, finances and taxation
      • Have a process for resolving disputes between the partners
      • Have a process for how the partnership can be finalised and what will happen to any remaining assets or what will happen if there are only debts

There might be other things that need to be in a partnership agreement in order to make it effective and for that reason you should seek legal advice.

Company

A company is a legal entity, separate from its owners. This make it ideal if you are looking to grow and scale your business. Shares in a company can be owned by one person or by many. If there are lots of shareholders it is recommended that you have a shareholders agreement in place.

A company also has limited liability (subject to certain limitations) which makes it suitable for more higher risk businesses. This means that individual shareholders are not responsible for debts or liabilities the company incurs, up to any unpaid amount on the shares (which is normally zero).

Because it is seen as separate, it will pay its own tax and be able to purchase its own assets. The Corporations Act sets out the rules for running and managing a company. There are a number of obligations that a Director of a company becomes responsible for. There are ongoing annual fees that you will need to pay to ASIC as well.

Trust

You can use a trust to run a business. A Trust is an entity that holds property or income for others. These people are called beneficiaries. The trustee can be individuals or a corporate trustee. An individual trustee is personally liable for the debts of the trust.  Profits are not able to be retained to fund future business growth. All profits must be distributed to beneficiaries with that share of trust profits then being declared on the individual tax return.

These are more complex to setup and you should speak to an advisor to see if this is right for you.

Deciding on a Structure

Let’s take a look at these four structures and compare them.

Setup Expensive to register No
Difficult to set up No
Liability & Exposure Limited liability No
Personal asset exposure Yes
Control & Profit Complete control Yes
Receive benefit of all profit Yes
Admin Complex reporting requirements No
Separate tax return No
Tax benefits No
Capital Easy to raise capital No
Employment Employ other people Yes
Employ myself No
Superannuation, Workcover for myself No
Change Easy to change the structure Yes
Exit Easy to dissolve, exit or sell Yes
Setup Expensive to register No
Difficult to set up Maybe
Liability & Exposure Limited liability No
Personal asset exposure Yes
Control & Profit Complete control No
Receive benefit of all profit No
Admin Complex reporting requirements Maybe
Separate tax return Yes
Tax benefits Yes
Capital Easy to raise capital Maybe
Employment Employ other people Yes
Employ myself No
Superannuation, Workcover for myself No
Change Easy to change the structure No
Exit Easy to dissolve, exit or sell Yes
Setup Expensive to register Yes
Difficult to set up Yes
Liability & Exposure Limited liability Maybe
Personal asset exposure Maybe
Control & Profit Complete control No
Receive benefit of all profit No
Admin Complex reporting requirements Yes
Separate tax return Yes
Tax benefits Yes
Capital Easy to raise capital Yes
Employment Employ other people Yes
Employ myself Yes
Superannuation, Workcover for myself Maybe
Change Easy to change the structure No
Exit Easy to dissolve, exit or sell No
Setup Expensive to register Yes
Difficult to set up Yes
Liability & Exposure Limited liability Maybe
Personal asset exposure Maybe
Control & Profit Complete control No
Receive benefit of all profit No
Admin Complex reporting requirements Yes
Separate tax return Yes
Tax benefits Yes
Capital Easy to raise capital Maybe
Employment Employ other people Yes
Employ myself Yes
Superannuation, Workcover for myself Maybe
Change Easy to change the structure No
Exit Easy to dissolve, exit or sell Maybe

Some people are not allowed by ASIC to manage companies or operate business in Australia. This may affect company formations and business name registrations.

From looking at this you might already have an idea of what type of structure might suit you, in the next Chapter we look at exactly how to go about setting up all your registrations.

This information is general information only and is not advice. If you have any questions about the right type of structure, reach out to one of our Service Providers.

R

Next Steps

The next chapter will take a look at legal obligations and business registration: Chapter 7: Check Your Legal Obligations and Register Your Business

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