An Owner of a new Startup Small Business or an existing business looking to update their current structure has a choice of four types of business structure.
This detailed information about each type will assist you to become fully aware of the key benefits, and the pitfalls to avoid.
The right choice of a business structure is important as it can be too expensive to change at a later date and the wrong choice could deny you the opportunity for proper business risk and asset protection.
Business Structures: Understanding the 4 common types
- Sole Trader
- Business Trust
#1 Sole Trader
Pros: Simple, cheap, easy to set up, easy to maintain and the obligations are few
Cons: Benefits are few while the risks are great
A Sole Trader is the simplest form of business structure available. It is relatively easy and cheap to set up and maintain. But there are few other benefits.
As a sole trader, you retain complete control of your business and it is imperative you understand the understand the risks you are exposed to.
Many new or intending business owners opt for sole proprietorship and choose to trade under their own name, for example, Karen Smith.
The other option is to register a business name with the Australian Securities and Investments Commission (ASIC).
Your liability for debts or claims against the business is unlimited and not a situation we would recommend to anyone.
There is no division between business assets or personal assets, which is where the issue lies.
Your share of any assets jointly owned with another person (such as your house or car) is also at risk even though they may have no involvement in the business.
Sole traders are taxed as individuals and pay income tax at personal tax rates.
Sole proprietorship means your business income is declared on your personal tax return along with any other assessable income (such as your salary or wages, interest, dividends).
If the business involves generating income form your personal efforts, skills or expertise the income may be subject to personal services income which treats deductions differently.
#2 Business Partnership
Before entering into any form of business partnership it is imperative that you take professional advice. There are better options!
A business partnership involves two or more people (but no more than 20) going into business together in a business relationship, however, a partnership is not a separate legal entity.
Each partner jointly owns all the business assets and liabilities.
Again personal liability is unlimited for each and every partner in the business.
If the business fails and your partner can’t afford to pay their share of any debts incurred, then you will be held liable for the shortfall.
You are also jointly responsible for any debts your partner incurs, with or without your knowledge.
Seek the help of a qualified professional to prepare a written partnership agreement, which should state each partner’s role and level of authority, their expected financial contribution and a clear procedure for dispute resolution and dissolve the partnership.
Business Partnership Agreement
Without a partnership agreement, each partner is deemed to own equal shares of each asset – Partnership Act 1895 (WA).
Before entering into any form of business partnership it is imperative that you take professional advice. There are better options!
#3 Company Structure
All you need to know about setting up a company structure for your small business.
What is a Company?
A company is a separate legal entity capable of holding assets in its own name, conduct a business in its own right, and it can sue and be sued.
Shareholders are the owners while directors run it
In many cases, directors are also shareholders, along with employees.
To register as a company, an entity must be incorporated under the Corporations Act 2001 (Commonwealth Act) and registered with the Australian Securities and Investment Commission.
Setting up a Company Structure
To set up the correct structure will require detailed information of the director(s), shareholder(s) and office bearers being the Public Officer and Company Secretary.
There are strict requirements laid down by ASIC as to who can hold these positions that must be adhered to.
It is possible to set up a company with a sole director and single shareholder but regardless of your preferred option, the implications of each must be fully understood.
Australian Company Number (ACN)
Unlike business names, once registered, a company name can trade throughout Australia.
Every Australian company receives a unique nine-digit Australian Company Number (ACN) which must appear on the company seal (if it has one) and every public document issued, signed or published.
The tax requirements for a company are quite different from the other business structures.
It has its own tax income liability which is totally separate to individual income tax. The income tax payable is at a flat rate of 30% on taxable income.
Learn more about the tax requirements of an Australian company at the ATO website.
A company’s assets belong to the company and the company is liable for debts incurred which makes this type of business structure appealing to high-risk business ventures.
Generally, the owner’s assets cannot be accessed to pay for any company debts or liabilities.
However, there are some exceptions. Financial institutions may require a personal guarantee against loans or overdraft. A personal liability may arise if debts are caused by actions that reck, negligent or are fraudulent.
A company can sue and be sued in its own right, but the director[s] can also be held personally responsible for offences under the Corporations Act 2001 or if they are found to have been negligent in performing their duties.
Proprietary and Public Companies
Companies may be formed as either private, also know as proprietary or public companies that are listed on the stock exchange.
If you wish to operate as a company you may require the assistance of a solicitor or an accountant to prepare the documentation.
Proprietary Company [Pty Ltd]
A proprietary company structure has no more than 50 non-employee shareholders and is generally not permitted to offer shares or securities to the public.
It must have at least one shareholder and one director, and at least one director must ordinarily reside in Australia.
Public Company [Ltd]
A public company structure may have more than 50 non-employee shareholders, can offer shares and securities to the public, and may seek a listing on the Australian Stock Exchange.
#4 Trust Business Structure
What is a Business Trust?
Unlike a company, a trust is not a legal entity. They are often used in connection with running a business for the benefit of others.
A trust is a structure where a trustee (an individual or company) carries out the business on behalf of the members (or beneficiaries) of it.
Family businesses are often set up as a trust so that each family member can be made a beneficiary without having any involvement in how the business is run.
Discretionary and Unit Trusts
A trust is set up through a trust deed and there many trust types and the two main types are:
The trustee has discretion in the distribution of funds to each beneficiary. The most common example is the family trust.
Unit trusts are recommended when more than one family is involved. The interest in the trust is divided into units, similar to shares.
Each unitholder may have a number of units in the trust. Distribution from the trust is determined according to the number of units held.
Importantly, trustees are legally liable for the debts of the trust. They can use the assets of the trust to meet those debts.
However, if there’s a shortfall, they are responsible for covering the difference from their own resources.
A trustee must apply for a Tax File Number (TFN) and lodge an annual trust return.
The trust is not liable to pay tax. Tax is assessed to the trustee or to the beneficiaries that are entitled to receive the trust net income.
Learn more about the tax requirements of an Australian trust at the ATO website.
Company Formation in 7 easy steps
These 7 easy steps will help with the key decisions that need to be made and will streamline the company formation process.
# 1: Decide which business structure is right for you.
# 2: Choose your company name and business name if required
# 3: Agree on how you wish to operate your company
# 4: What you need to do as an officeholder
# 5: Assemble your team
# 6: Register your company with ASIC
# 7: Learn the legal obligations of your company name, ACN and ABN
Step 1: Deciding which business structure is right for you
It is recommended that you seek proper advice on the best business structure for your business.
The primary considerations should be to establish good protection from potential business risk and to ensure asset protection.
In addition, tax planning and succession planning may require the use of a Trust.
The best business structure option may include a company or a trust, or a combination of both to meet your circumstances and business goals.
Such an important decision requires legal or other professional advice to assess your current situation and plans for the future of your enterprise.
Step 2: Choose a company name
Your company needs a name. It should give the impression to your customers of what you do, but it must show its legal status and not be already registered by someone else.
For example, a proprietary company must include the word ‘Proprietary’ or the abbreviation ‘Pty’ in its name and must also outline the liability of its members, unless the members’ liability is unlimited.
To find out whether the name you want to use is available, you can use the ASIC website “Check Name Availability” search tool. The tool will confirm whether your proposed name is identical or similar to another name already registered.
Keep in mind that certain words and phrases cannot be used in company names without the approval of a specified Minister or government agency such as:
‘chamber of commerce’, and
You also cannot use words that may suggest a misleading connection with government, the Royal Family or an ex-servicemen’s organisation. And, of course, the name must not be considered offensive or suggest illegal activity.
Possible problems with similar names
You may also need to check if your proposed name is similar or identical to any registered or pending trademarks. You can check the IP Australia website to find out.
Even if you reserve or register a name for your company, a person or corporation with a similar registered name may still take action against you. It is your responsibility to be aware of any problems that might arise from names already registered which are similar to, or likely to be confused with, the name you register.
Step 3: Decide how you want to operate your company
To apply to register a company you must decide how the company will be internally governed, either by replaceable rules, or its own constitution, or a combination of both.
Your business advisor can help you to understand your requirements.
Step 4: Understand your legal obligations as an office bearer
If you are a director or secretary of a company, you must follow the requirements set out in the Corporations Act.
Company officeholders need to know what their legal obligations are, for example:
- ensuring company details are kept up to date
- maintaining various registers and records
- paying the appropriate lodgment and annual review fees to avoid late fees and non-compliance action
- The officeholders remain ultimately responsible for the company’s compliance with the Corporations Act
Step 5: Get consent from officeholders, members and occupiers
Officeholders and members
Before applying to register a company you must get written consent from people who agree to fill the following roles:
- director (must be a person who is 18 years or older)
- secretary (must be a person who is 18 years or older), and
- a member (every company must have at least one member)
- A proprietary company must have at least one director but does not need to have a secretary. The director and secretary, if any, must ordinarily reside in Australia.
If your registered office will not be occupied by the company, but by, for example, your solicitor or accountant, then the occupier must give written consent for the company to use that address.
Keeping a record of consents and agreements
You must have the relevant consents and agreements when you lodge the application. These do not have to send them to us, but you must keep them as part of the company’s records after it is registered. It is an important requirement to set up a register of members to record details about the members of your company.
Step 6: Company Formation registration with ASIC
The Company formation registration is lodged online with ASIC and will include the business name registration if a separate business name is required.
Issue the company register which the registration details obtained from ASIC.
Complete all of the of the director, shareholder and office bearer consents and issue of share certificates.
A full company secretarial service is available if required.
Step 7: Understand your legal obligations:
Displaying your company name
How to use your ACN (or ABN) correctly
The company formation process is complete.
This website provides a general summary of the basic information about how to start and register a company. It does not cover the whole of the relevant law regarding that topic, and it is not a substitute for professional advice. The omission of any matter on this information sheet will not relieve a company or its officers from any penalty incurred by failing to comply with the statutory obligations of the Corporations Act.