When commencing a new business it is crucial that you select the most appropriate structure to suit your personal circumstances and aspirations.
Consideration needs to be given to the tax implications associated with each structure as well as the degree of asset protection required. It is also vital to take into account control of the business structure and succession issues.
It is possible to change your structure as the business grows, however, the complexity and expense increases as you transition through the different structures from a sole trader to a company or trust.
1. Sole Trader
A sole trader is the simplest form of business structure. It is relatively easy and inexpensive to establish with limited legal and tax formalities. However, you are legally responsible for any debts or losses the business may incur. Your liability is unlimited, which means that your personal assets could be put at risk and used to pay your business debts.
The business income is your individual income and you are personally liable to pay any tax the business is obliged to pay. The tax rate for a sole trader is the same as the individual taxpayer at personal income tax rates. If you earn more than $75,000, you must register for Goods and Services Tax (GST).
A partnership is an association of two or more people (up to 20) who go into business together. This business structure is relatively inexpensive to establish and operate. The business is controlled and managed by the partners who also share the business income and losses. Notably, each partner is responsible for the debts of the business, even if an individual partner did not create or incur the debt.
Although not essential, a formal partnership agreement is highly recommended to help avoid conflict or financial loss if there is conflict or disagreement between business partners.
A partnership structure requires a Tax File Number (TFN) and must register for GST if the annual turnover is equal to or exceeds $75,000.
A company is a separate legal entity that can hold assets in its own name and conduct business in its own right. A company is a complex business structure, with a higher establishment cost and strict reporting requirements. A company must be incorporated and registered with the Australian Securities and Investment Commission (ASIC). A company is owned by its shareholders and controlled by its directors. Often the directors are also the shareholders. A company structure affords some asset protection, however, directors can be liable for their actions and debts, if they are found to have acted negligently in the performance of their duties.
Every company receives an Australian Company Number (ACN), which must appear on every public document issued or published.
Because a company is a separate legal entity, the money earned belongs to the company. The income tax liability of a company is separate to individual income tax and is fixed at a rate of 30% on assessable income. A company must register for GST if the annual turnover is equal to or exceeds $75,000.
A trust is a business structure where a trustee carries out the business on behalf of the members or beneficiaries of the trust. A trustee can be a person or a company. The trustee holds property as the legal owner of that property (for example assets or income) in a particular way for the benefit of the beneficiaries. A beneficiary is a person who does not hold the legal title in the property held in trust, but for whose benefit the legal title is held by the trustee. A trustee can also be a beneficiary, but is not permitted to be the only trustee.
Establishing a trust can be expensive, as a trust is governed by a trust deed. The deed is a legal document that outlines how the trustee must perform their obligations. The trustee is also required to act in accordance with Trust laws and their fiduciary duties.
Trustees are legally liable for the debts and liabilities of the trust. Assets owned by the trust may be used to meet those debts, but any shortfall must be covered from the trustee’s own resources. Beneficiaries on the other hand are generally not liable for any debts incurred by the trust.
The main advantage of a trust is asset protection and flexibility of asset and income distribution.
The disadvantages include expensive and complex to establish and administer and difficult to dissolve or alter, especially if children are involved.
5. Discretionary Family Trust
A Discretionary Family Trust is a common business structure that benefits members of a family. A Discretionary Family Trust allows the tax burden to be shared between family members and also protects family assets.
A Discretionary Family Trust affords some protection from bankruptcy and insolvency. It also allows income distribution to family members who are on low tax rates.