BUSINESS ADVICE • 12 OCTOBER 2021 • 4 MIN READ
Business structures – what’s best for you?
Making the right decision regarding your business structure in Australia can save you money and aggravation. This blog is designed to give you some background information on theses common business structures in Australia.
You will probably have heard most of the common types of business structures, and there are some general considerations to think about, but everyone will have a different situation.
We advise that if you are trying to make a decision,contact us. We are happy to help.
Myths about being a company
I’ll save tax because the company tax rate is 25%
Having a company structure in Australia does not guarantee you’ll save tax. If one associate of the company performs most of the work, or the company has only one or two clients, we may be required to allocate all profit to the individual that is generating the income. This is called the Attribution Rule for Income from Personal Services. The individual associate includes this profit allocation in the individual tax return and pays tax at their personal rate.
The result is exactly the same as if you use the sole trader structure. Read more on frequently asked questions for being a sole trader.
With the top tax rate being 45% (excluding Medicare levy), the Australian Taxation Office is very much aware that individuals may change to a company structure for no other purpose than to reduce their tax bill. This could be considered tax avoidance.
My personal assets are protected
If you’re the size of a sole trader but operating as a company, and/or the company has few assets, lenders are likely to request a personal guarantee from the shareholder(s). By giving this personal guarantee, the shareholder(s) personal assets may be taken or liquidated to settle the debt.
Sole trader structure is the easiest option for a start-up. A sole trader is a person trading on their own.
The sole trader:
- Controls, manages and owns the business
- Is personally entitled to all profits
- Is personally liable for all business taxes and debts.
As a sole trader you can usually begin the business without following any formal or legal processes to establish it. You may employ other people to help run the business.
Quick and cheap to get going, just start trading in your own name and ABN number. You will need to register for GST if you earn more than $75,000 in any 12-month period.
You can’t split your income for tax purposes, which means that if you earn a reasonable amount, you’ll be exposed to the highest tax rates.
You also have no protection against creditors and other claims against you. If you also own your own home, then you place this at risk.
Partnership structure is often associated with professional practices, and it's less common these days. In a partnership, two or more people run a business together.
- Shares responsibility for running the business
- Shares in any profit or loss equally, unless the partnership agreement states otherwise
- Is liable for any debt within the partnership
Many partnerships are established with a formal partnership agreement.
The partnership itself does not pay income tax. Instead it distributes the partnership income to the partners. The partners then pay tax on their own share.
Income, tax credits, rebates, gains, expenditure or losses allocated to a partner in an income year will generally be allocated in proportion to each partner’s share in the partnership’s income under the partnership agreement.
A limited partnership exists as a formal and legal entity in its own right. It is separate from its partners.
Limited partnerships need to be registered at a state level.
There are benefits of having a partnership business structure. Partnerships give certainty about what happens to the business profits. Profits are taxed according to individual circumstances as all profit is paid out to the partners and they pay their own tax.
There is no flexibility about the division of profits and tax is paid at the individual’s rate which can expose the partners to the highest tax rate, if profit is high.
In addition, most standard partnerships mean that all partners are jointly responsible – so again people can place their personal assets at risk. The limited partnership is designed to reduce this risk.
Company structure in Australia is the most 'commercial' entity. A company exists as a formal and legal entity in its own right. It is separate from its shareholder(s) or owner(s). The cost of registering a company ranges from $443-538 depending on the type of company you register.
Assets and liabilities
- Owns the assets and liabilities of the business
- Is responsible for any debts
The shareholders’ liability for losses is limited to their share of ownership of the company.
Company structure in Australia is the most common trading entity so gives the business a more commercial look and feel, profits can be retained in the company or paid out to shareholders and therefore gives the tax flexibility, and liability is restricted. This provides business owners with some protection from creditors or other claims.
You have to pay to incorporate and there generally is a higher cost of compliance due to the increased complexity of the structure type.
A Trust is formed when a trustee holds the assets and operates the business, distributes incomes to beneficiaries, and follows the provisions in the trust deed. The trustee can be a person or a company.
There are 2 main types of trusts in Australia:
- discretionary trusts where the trustee decides how the profits will be distributed among the beneficiaries
- unit trusts where the interest in the trust is divided into units, and the distribution of the profits is determined by the number of units a beneficiary holds.
There are several advantages for trust. Limited liability is possible if a corporate trustee is appointed. Also, the trust structure provides more privacy than a company and greater flexibility when it comes to tax planning. Moreover, the trust income is generally taxed as an individual's income, and there can be flexibility in distributions among beneficiaries.
There are some disadvantages at the same time. For example, the trust structure is complex; it can be expensive to establish and maintain; you can’t distribute losses (only profits); problems can be encountered when borrowing; the powers of trustees are restricted by the trust deed.
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There’s no best business structure. The best business structure is the one that suits your needs. If you want a business that’s easy and has lower costs to get started, you can choose to be a sole trader. However, it’s worth remembering that this might put your personal assets at risk. If you operate through a company structure, there are more tax requirements you need to meet.
We’ve put together a table for your reference when choosing a business structure.
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