We all have million-dollar ideas: drive-thru sushi bars, candles that smell like certain foods, and apps where you can pay strangers to drive you around. Each has its own unique potential – however, the difference between getting these million-dollar ideas to take off or failing after the first 12 months may be determined in large part by the business structure you choose to begin with.
So, before you start a business, or at least in the early phases, one of the most important decisions you can make is choosing the business structure that’s right for you.
At Business Tax & Money House, we see many different types of businesses, all with different accounting and taxation needs. Our job is to set these businesses and individuals up for success now and well into the future, by assisting them with their financial and taxation requirements such as guidance on cash flows, profit distribution, ongoing costs, mitigating financial exposure and overall growth of the business – all while reducing the taxes they pay.
Choosing the right structure for you
By choosing an optimised business structure, you’re protecting yourself and your assets from liability should things go wrong, dictating how you will deal with your clients, and abling advantages of tax benefits in certain scenarios.
But what differentiates each business structure, and how will each structure affect you as a business owner? We’ve broken down the four common business structures in Australia to help you with the decision.
1. Sole trader
A sole trader is an individual running and operating their own business. Sole trader structure is the simplest and cheapest business structure, as the owner is the controller and manager of all business dealings, finances and tax. Whilst this structure works for those starting out due to the few legal formalities, it’s important to note that sole traders are completely responsible for all aspects of the business, and closing the business does not void them.
When lodging income tax returns, sole traders will use their individual TFN, pay taxes during EOFY through PAYG instalments, and use their ABN during business dealings.
For sole traders, debts and losses can’t be shared with other individuals and may be subject to quarantine – which also means sole traders can’t claim deductions for money drawn from the business, because the ATO doesn’t recognise these as wages for tax purposes.
What you may not know is that you have one ABN for all your activities. So, for example, if you run a consulting business during the day and drive taxis on weekends – you use the same ABN. It’s also important to note that there is one GST threshold for all your sole trader activities, and if you’re registered, you’re registered for all these activities.
Whilst this structure works for some, it may not be the best for you as your business grows and you start to employ people.
A partnership business structure is considered to be relatively inexpensive to set up and operate. A partnership structure refers to a group of two or more people that carry on a business and distribute income or losses between them. You’d likely see this structure being used between two friends in business, or parents and children running a family-owned restaurant.
If you plan on opting in on this structure, we recommend a written partnership agreement to solidify the business relationship. Having a written agreement in place can assist in preventing disputes and misunderstandings. These include identifying how income and losses will be distributed between partners, what each partner brings to the business and what they are entitled to receive in profit. It’s important to note that each partner is responsible for the debts of the whole partnership, and this responsibility remains, no matter how close the partnership.
Partners are responsible for their own superannuation agreements, must lodge an annual partnership return through a partnership TFN and pay tax on their individual share of the net partnership income they each receive. They must use an ABN for all business dealings and like sole traders, must be registered for GST if annual GST turnover exceeds $75,000.
A company, either Pty Ltd (private) or Ltd (public), is a legal entity, and with this, incurs higher setup and administration costs. A company structure refers to a business run by directors and owned by shareholders – meaning a company is responsible in its own right for its own debts. Therefore, shareholders risk only the amount they paid for shares, and directors’ personal assets are exposed to debts of the company only in certain situations, which with good governance, are usually avoided.
When paying taxes, the company must lodge an annual company tax return using its own TFN and pay tax at the company tax rate. The company structure means the business owns the money earned, and individuals who control this business must follow certain rules to draw money from it.
It’s typical to see businesses with higher exposure to risks choose this structure due to its limited liability to shareholders.
If you’re choosing a trust structure for your business, you may want to consider the costs and formal administration responsibilities that come with it.
When setting up a trust, a trustee (either an individual or company) is legally responsible for all operations of the trust, and all profits from the trust go to beneficiaries. The trust must use its own TFN in an annual tax return, must use an ABN in business dealings, and must be registered for GST if turnover exceeds $75,000.
A trust may be liable for tax payable depending on the wording of its deed and if income earned by the trust is distributed to beneficiaries. It’s always best to get an expert on your side when dealing with trust structures, as each requirement is integral to taxation, costs and assets.
Which is right for me?
Whether you’re choosing a structure for the first time or looking to completely restructure your current business, BTMH can help. We’re experts in assisting business owners to make the most out of their business endeavours and make it our mission to see you succeed. Talk to us today to understand which business structure is right for you, talk through your options and get started on making your business dreams a reality.