How Your Business Structure Affects You At Tax Time
If you’re starting a business, choosing the right kind of business structure is not a decision that you should take lightly. It can impact how much tax you pay, the safety of your personal assets and how you go about registering your business.
Selecting the wrong type of business structure is a commonly made mistake, and can adversely affect the success of your business. You should always work with small business accountants before making any final decisions, and minimize the risk of any costly mistakes taking place.
In Australia, there are four main types of business structures. Each structure has its own pros and cons and may be more or less beneficial for your business come tax time.
Sole traders are legally responsible for all areas of their business, making this option suitable for small businesses that are linked to their owner’s personal skills. It also gives you direct control over your business and is cheap and hassle-free to set up.
On the other hand, the potential downside is that a sole trader business structure is taxed as part of your personal income and there is no tax-free threshold. This means that you pay tax on all of your profits no matter how small they may be.
In a partnership structure, the business is run by two or more owners who oversee all aspects of the business together, and they will share the profits, losses and costs of the business.
This approach can be successful as it allows multiple parties to contribute their skills and knowledge to a business together, and a partnership agreement can be drawn up to dictate how the taxable income or loss is divided between the partners. However, everyone involved is responsible for each other’s share of the business liability, and errors made by one party can affect everyone involved.
Within the company business structure, there are both public companies and private companies. Public companies can be listed on the stock exchange and are owned by shareholders and directors are then appointed to run the business.
The liabilities of the company are only applicable to the company’s assets and cannot extend to those of the owners, and all profits are taxed at a single tax rate. However, setting it up can be complicated and requires significant financial investment.
A trust business structure is when the control of the business is transferred to a third party who also distributes any income generated to the beneficiaries. Trusts can be useful in holding capital for beneficiaries and flexibility of income distribution.
On the downside, businesses run via a trust can be challenging to dismantle and the beneficiaries are required to pay personal income tax on any income they receive from it. Beneficiaries in this situation are recommended to work with a tax agent to make sure that all their income is being taxed correctly.
Changing your business structure
After you select a business structure you are not tied to it forever and changes can be made. This generally occurs when the needs of a business are evolving and the structure needs to be revisited to increase profits and simplify the relevant processes.
What steps you’ll have to go through depends on the current structure of your business and what you wish to change it to. In certain cases, such as if you wanted to change from a partnership to a company, you would have to dissolve the partnership completely and then set up a new company. If you were to switch from a sole trader to a partnership, you would have to apply for a new Australian business number and seriously consider drawing up a partnership agreement.
These steps can be complicated and are heavily regulated. Whether you’re a sole trader and need an accountant for tradies or require assistance in changing your business structure, working with an accountant is essential in helping you make sure that all the correct procedures are followed in order to protect yourself and your business.
Also read here Why your small business needs a bookkeeper.