It is essential to know the different types of business structure and their corresponding advantages and disadvantages, so that you can decide, based on your current circumstances, the best operating structure for your business.
In assessing what business structure is best suited for you, you need to consider tax implications, asset protection, set-up and continuing costs, and legal obligations. Here are the four most common business structures.
This is a type of entity where the owner, who is the sole trader, has all direct control of the business.
This is suitable for small businesses with minimal capital investment.
- Easy and cheap to put up with simple bookkeeping requirements for tax and legal purposes
- The owner receives all profits but is also legally accountable for any financial obligations such as debts or loans.
- The owner carries the unlimited responsibility for all expenses and debts suffered by the business, to the extent of using his personal or other assets.
- The business is not subject to separate taxation as its tax is part of the owner’s personal income tax return. The greater the business income, the bigger the owner’s tax rate.
- Business can simply cease or be sold.
A partnership is an arrangement in which two or more individuals (up to 20) jointly own a business. Partnerships are the best way to make the most out of each partner’s abilities, skills, knowledge, resources, and additional funding to manage a successful business.
- A partnership is generally easier and cheaper to form, manage and run. It is not required to have a written partnership agreement but it is highly advised to have one.
- Business profits are distributed to the partners who pay income tax based on personal conditions at their marginal tax rate.
- It is not required that partners should provide equal shares in the business yet each partner is subject to unlimited liability for all the business’ financial debts and expenses.
- There is the danger of disagreements between partners which may affect business operations.
- Ownership transfer between partners or with another person outside the partnership can be complicated. The partnership can even be dissolved if a partner leaves, retires or dies.
Pty Ltd Company
A proprietary limited company is a separate legal entity with its own income tax liability. It is regulated by the Australian Securities & Investments Commission (ASIC) and incorporated under the Corporations Law. This business structure requires at least one director and one shareholder who can be the same person. However, there can be no more than 50 non-employee shareholders in this kind of entity. Shareholders have limited liability up to their subscribed capital, but directors may be personally liable for any financial obligations against the business. This kind of structure is suitable for small businesses which require limited liability with tax advantage and flexibility.
- They are more difficult and expensive to register and put up compared to a Sole Proprietorship and Partnership.
- Proprietary limited companies are subject to many legal requirements such as in tax reporting, administration and bookkeeping.
- The company pays at a fixed income tax rate (currently 30%) on its taxable income
- Transfer of ownership can be done with ease. Retirement, disability or death of shareholder or key persons in the company would not require winding up of business.
It is a business structure where the trustee (either an individual or a company) manages and holds assets for the beneficiaries’ benefit. The discretionary trust (also known as family trust) is the most common form of trust. All business income goes to the trust which will be distributed to the beneficiaries depending on the trustee’s decision. A trust deed contains the rules as to how a trust should be managed.
- The trust can be expensive to establish and maintain because you would need assistance on its complexity and regulations from a solicitor or accountant.
- Limited liability and asset protection are possible if a corporate trustee is appointed.
- Trust income is generally taxed as income of an individual at their own marginal rates. Children under 18 may also be taxed at higher rates than adults.
- In general, beneficiaries are not liable for trust debts. Assets may be controlled but not owned by beneficiaries.
- Meet with your accountant or solicitor to discuss the best business structure suitable for you.
- Ask about:
- Bookkeeping and reporting requirements
- Set-up or establishment costs
- Maintenance costs
- Asset protection
- Tax implications
- Selling, leaving or transferring business ownership
NOTE: This month we’re holding a limited number of Free Business Strategy Sessions designed to show business owners how they can manage and grow their enterprises with the least amount of cost and disruption possible.
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James HuyVuong is a CPA and the owner of Your Accounting Partners. Partnering with businesses from start to scale thru to sale.