Types of Business Structures in WA

When it comes to selecting the most appropriate structure for your business, we always recommend you ‘start with the end in mind’. Australian tax laws are complex and changing your business structure at some point in the future can trigger a capital gains tax event and stamp duty implications that could prove costly.

Some key issues should be taken into account are:

• Minimisation of Income Tax
• Maximise Asset Protection
• Allow for the admission of New Business Partners or Investors
• Comply with all Legal Requirements in your Industry
• Future entitlement to Discount Capital Gains Tax Concessions

There is no business structure that can be an “absolute optimum” option, what we often find is business structures compromise based on the relative importance of these issues. Occasionally, a combination of different structures is used to achieve the ultimate outcome.

When it comes to business structures there are a range of options. The most common structures in Australia include sole trader, partnership, company and family (discretionary) trust. Below is a very brief summary of these structures and the advantages/ disadvantages of each. Given the cruciality of setting up the right structure, we recommend you contact us prior to making the decision.

Sole Trader

Sole traders are individuals operating a business in their own right. They can trade under their personal name or a registered business name. Such a business is not an entity separate from its owner and for tax purposes the income of the business is treated as the person’s individual income. The sole trader is personally responsible to pay tax in their own right at the marginal rates for individuals.

Advantages of Being a Sole Trader

• The simplest type of business structure as the individual owns the business
• Low cost option and quick to establish
• Sole traders maintain the full control over the business operation and the direction
• Losses can be applied other income (provided that non-commercial loss rules are passed)

Disadvantages of Being a Sole Trader

Profit will be taxed at the sole trader’s marginal rate, which can be as high as 47%

Provides minimal asset protection (unlimited liability for the sole trader for the debts of the business)

Partnerships

A general-law partnership is a relationship between two or more persons carrying on a business with a view to profit. Partnerships are governed by state government laws and it is usual to have a formal overriding partnership agreement which outlines the rules by which the partnership conducts its business such as;

• profit-share arrangements,
• arrangements for partners’ salaries,
• admission of new partners, and
• retirement of partners.

Advantages of a Partnership

• The business can easy be established and the start-up costs are low.
• Partners can combine the resources and share the financial commitment.
• Tax losses are accessible to the partners directly. (provided that non-commercial loss rules are passed)

Disadvantages of a Partnership

• Unlimited liability for the partners for the debts of the business.
• Partners in a general partnership are jointly and individually liable for the business activities of the other. If your partner skips town, you'll be liable for all the debts, not just half of them.
• Inflexibility in bringing new partners or replacing existing partners
• Profitable partnerships can push the partners (individual owners) into higher tax brackets.

Company

A company is a legal entity separate from its shareholders, who own the company. They are governed by Corporations Law which is administered by the Australian Securities and Investments Commission (ASIC). Companies are a separate legal entity and are granted legal status to enter into contracts etc.

Advantages of a Company Structure

• Companies provide a form of asset protection with limited liability and separates the personal assets of the individual shareholders from the debts of the company.
• Tax rate is 26.5% (will be reduced to 25%) for base rate entities and 30% for others
• Additional deductions incurred by directors and associates such as travel allowance and amenities are available
• Flexibility in changing ownership with options to minimise stamp duty implication
• Company name is easy to be recognised
• Company can be a preferred option when businesses are operated by unrelated parties

Disadvantages of a Company Structure

• Cost to set up and maintain is higher compared to sole trader and partnership and family trust (with individual trustees)
• Losses trapped in the company
• Companies lose tax benefit on capital gain tax discount and exempt income
• Division 7A implication on companies can be complex when directors, shareholders or any associates draw out fund
• Directors are required to comprehend their duties and liabilities including preventing insolvent trading

Trusts

A trust is not a separate legal entity but refers broadly to an obligation accepted by a person or persons (the “trustee”) in relation to property (the “trust property”), for the benefit of another person or persons (“beneficiaries”).

Trustees are required to undertake all obligations and transactions on behalf of the trust. As this role carries a legal liability for the activities undertaken, trustees are often companies to limit liability.

A trust deed sets out a trustee’s obligations and the relationship between the trustee, the beneficiaries and the trust property. The most common type of trust is discretionary trust (family trust).

Advantages in a Trust Structure

• Can assist in protecting the family group's assets from the liabilities of one or more of the family members (i.e. in the event of a family member's bankruptcy or insolvency)
• Provides a mechanism to pass family owned assets to future generations
• Can provide tax benefits in the form of income splitting
• Can avoid potential issues such as challenges to a will following the death of a senior family member
• Limited liability can be gained by setting up a corporate trustee
• Additional deductions incurred by working beneficiaries such as travel allowance and amenities are available

Disadvantages of a Trust Structure

• Cost to set up and maintain is high
• Distributions can be required to be physically paid to beneficiaries to avoid future liabilities or division 7A implication
• It can be challenging to change ownership with unrelated parties
• Losses trapped in Trust
• Trusts are recognised compared to companies and can be difficult to obtain trademark, licenses etc. in some circumstances

Summary

Each type of business structure has its own set of rules and regulations and impact on important issues like asset protection, tax rates, availability of discount capital gains concessions, treatment of carry forward tax losses and abilities to advance loans to associates that are summarised in this table: