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If you are thinking of starting a business, you will need to consider the different business structures available to you and work out which structure will best suit your needs.

In Australia, businesses are commonly structured as sole traders, companies, partnerships, discretionary trusts and unit trusts. Superannuation funds are becoming increasingly popular as a business structure with more and more Australian families and individuals opting to manage their own Superannuation retirement savings.

We’ve outlined the key features of and differences between these structures as a guide to assessing which business structure might be most suitable for your business plans. However, it is important to seek professional advice (from a lawyer, accountant, or business adviser) before deciding which business structure to use.

Sole trader

  • Overview: an individual running a business
  • Tax:
    • profits are taxed in the hands of the business owner at the same income tax rates as individual tax payers
    • small business tax offsets may be applicable
  • Asset protection:
    • no separate legal entity and the business owner is personally liable for the debts and liabilities of the business
    • unlimited liability – creditors are entitled to pursue a sole trader for debts and may also have access to the sole trader’s personal assets
  • Control and succession:
    • sole trader owns, controls and manages the business and is legally responsible for all aspects of the business
    • business assets/liabilities become part of the sole trader’s estate upon their death
  • Set up and running costs:
    • simplest and most inexpensive business structure
    • only need to register for GST and register a business name to get started
  • Flexibility:
    • limited opportunities to distribute profits to be more tax-effective

 

Company

  • Overview: a separate legal entity that has the same rights as a natural person – i.e. it can incur debt, sue and be sued
  • Tax:
    • profits are taxed at 30%
    • must lodge an annual tax return
    • must register for GST if the annual GST turnover is over $75,000
  • Asset protection:
    • assets are owned by the company and are separate from the business owner’s personal assets
    • shareholders are not liable for the debts and obligations of the company
    • directors may be personally liable for their actions and for the company’s debts in certain circumstances
  • Control and succession:
    • business operations are controlled by directors and owned by shareholders
    • shares held in a company are assets that will form part of your estate in the event of your death and can be dealt with by your Will (however you should check company constitutions/shareholders agreements etc. to ensure a different outcome to that which you have planned in your Will is not prescribed)
    • a company continues to exist in the event of the sole director’s death
  • Set up and running costs:
    • higher set up and administrative costs
    • additional reporting requirements
  • Flexibility:
    • complex and subject to more regulation than sole traders or partnerships (regulated by ASIC)

 

Partnerships

  • Overview:
    • two or more entities operating a business in common with a view to making a profit
    • partners share income, losses and control of the business
  • Tax:
    • partnership has its own TFN and must lodge an annual partnership return
    • each partner pays tax on their share of the partnership profit at the individual tax rate (or at 30% if the partner is a company)
    • small business tax offset may be applicable
    • partnership must be registered for GST if the annual GST turnover is over $75,000.00
  • Asset protection:
    • no separate legal entity
    • partners are jointly and severally liable for all debts and obligations of the partnership
  • Control and succession:
    • partners share control of the business
    • generally a partnership is dissolved immediately upon the death or bankruptcy of one of the partners
  • Set up and running costs:
    • relatively inexpensive to set up and operate
    • a formal partnership agreement is not essential, but it is a good idea to outline how income or losses will be distributed to partners and how the business will be controlled
    • partnership must apply for an ABN and use it for all business dealings
  • Flexibility:
    • partnerships allow for flexibility in the partnership agreement

 

Trusts

  • Overview:
    • operating a business through a trust involves a trustee owning and operating the business’ assets and distributing the business’ income on behalf of the beneficiaries
    • trustees’ actions are governed by the trust deed
    • a discretionary trust gives the trustee discretion over what income/capital is to be distributed to which beneficiary
    • a unit trust divides the trust property into fixed parts (units). Beneficiaries subscribe to units and the income/assets of the unit trust is distributed to the beneficiaries in fixed proportions to the units they hold
    • family businesses commonly employ discretionary trusts where the parties are comfortable with the trustee having discretion as to who should receive what distribution
    • unit trusts offer more certainty to unit holders and are suitable for a business run by two or more independent people
  • Tax:
    • beneficiaries/unit holders pay income tax on their entitlement to trust income.
    • undistributed income is taxed at the highest marginal rate (or at 30% if the beneficiary/unit holder is a company)
    • a trust is entitled to a 50% CGT discount on any capital gains made on the disposal of any assets the discretionary trust holds for more than 12 months
    • if permitted by the trust deed, under a discretionary trust capital gains can be streamed to beneficiaries for tax purposes by making beneficiaries specifically entitled to the capital gains
  • Asset protection:
    • under a discretionary trust, the trustee has the ability to quarantine assets from its beneficiaries – property held by a person as trustee cannot be taken by creditors in bankruptcy or liquidation unless the debt is a debt of the trust
    • a unit trust offers less asset protection than a discretionary trust as unit holders can have their share of the assets held in the trust claimed by creditors if they do not have enough personal assets to meet their debt
  • Control and succession:
    • trusts allow control to remain in the family and it is easy to hand over control of the business to members of the family
    • note that if you holds assets in a trust, you must think about what will happen to the trust in the event of your death – the trust assets do not form part of your estate and cannot be given away under your Will
  • Set up and running costs:
    • can be expensive to set up as a formal deed is required outlining how the trust is to operate
    • costs associated with formal yearly administrative tasks for the trustee
  • Flexibility:
    • discretionary trusts offer very good flexibility with income and capital distribution

 

Self-managed superannuation funds (SMSFs)

  • Overview:
    • a superannuation fund that has its members acting as its trustees – this means that the members of the SMSF can run the fund for their own benefit and are responsible for complying with superannuation and taxation laws
    • note the recent changes to SMSFs that came into effect from 1 July 2017
  • Tax:
    • income is generally taxed at 15% – to be entitled to this rate, the fund has to be a ‘complying fund’ that follows the rules for SMSFs (the tax rate for non-complying funds is the highest marginal tax rate (45%))
    • SMSFs are entitled to a 33% CGT discount if the relevant asset has been owned for at least 12 months
  • Asset protection:
    • strong asset protection (where the SMSF trustee is a company)
    • a lender to the SMSF only has recourse against the asset, not the fund
    • in most cases a beneficiary’s account is also protected from the beneficiary’s creditors.
  • Control and succession:
  • Set up and running costs:
    • higher set-up and running costs due to being highly regulated
    • trust deeds are required at set-up, and there are ongoing costs associated with providing financial accounts, yearly taxation obligations and formal audits
  • Flexibility:
    • limited flexibility due to being very highly regulated

 

If you are considering starting or entering a business, speak to one of our commercial lawyers for advice on understanding your own particular circumstances and what business structure suits your situation and your business idea.

See also: Factors to consider when choosing a business structure

 

About the authors:

This article has been co-authored by Claudia Giovannini and Jacqueline Brown at Lynn & Brown Lawyers.  Claudia is currently studying law at UWA and hopes to be admitted as a Perth lawyer in or about 2018.  Jacqui is a Perth lawyer and director, and has over 20 years’ experience in legal practice and practices in family law, mediation and estate planning.  Jacqui is also a Nationally Accredited Mediator and a Notary Public.

 

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