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Is a company business structure right for you?
A company business structure may be the right choice for you if need asset protection and have plans to rapidly grow your business.
Essentially, the company is made up of shareholders and the directors who run it, although you have the option set up a one man company with you as the sole director and at least one shareholder.
While company ownership structures can provide a lot of tax benefits it’s important to understand that there are high set-up costs and the reporting requirements are greater.
What are the benefits?
- Company tax rate: The company tax rate is currently set at 30% or 30 cents to the dollar which is a lot of better than the tax rates on personal income. Essentially, the company will pay tax on business profits and you can draw down whatever you need for yourself.
- Limited liability: You can set up the company in a way where shareholders (yourself included) are only liable for their share in the company. This is a lot different to a sole proprietorship or partnership ownership structure.
- Income-splitting: You have the option to have your family members as shareholders in the business and essentially have your income float around the family structure.
What are the drawbacks?
You’re still personally liable in some cases.
One of the the biggest misconceptions business owners have with a company business structure is that you and your assets are always completely protected when things go wrong.
Your assets actually aren’t protected by the business structure.
You, personally, may also be liable depending on the circumstances.
Under rules set by the Australian Securities and Investments Commission (ASIC) under the Corporations Act 2001, directors of proprietary (private) limited (Pty Ltd), unlimited proprietary (Pty) and public (listed on stock exchange) limited companies can still be held personally liable for the following negligible or fraudulent reasons:
- Debts associated with insolvency.
- Losses caused by breach of director’s duties.
- Debts from the company acting as a trustee as part of a trust business structure.
- Other illegal activity prohibited under the act including phoenix activity.
There are circumstances in which you could be held liable for debts and losses so check out this ASIC page for more information.
A company can sue and be sued!
Having personal liability insurance can help to minimise your potential loss but it’s important to be aware that you’re still personally liable if your insurance doesn’t cover the cost of any business losses you suffer.
Can I be a no liability company?
No liability companies are only applicable to businesses operating in the mining or oil exploration sectors.
Other drawbacks of a company business structure include:
- Higher set-up and administration costs.
- More ATO reporting requirements.
- There is no tax-free threshold meaning tax is charged at 30% from the first dollar. This is the reason it typically only makes sense to switch to company ownership when you’re a sole trader that’s starting to earn enough income to creep into a higher tax bracket.
- It can be much more difficult to wind up a company then sole proprietorship or partnership arrangement.
- Whether or not shares are transferred, there may also be a Capital Gains Tax (CGT) or stamp duty payable, including profits distributed to shareholders.
- From a business perspective, you’re not as agile as a sole trader, with important financial decisions needing the input of shareholders, who are effectively owners of the business.
Is the ownership type right for my needs?
Setting up your business in a company structure makes sense for several reasons but it really depends on your needs and what industry you work in.
Limited liability and asset protection
The principal of a medical practice would find it beneficial to operate as a company purely because there is limited liability in the event that you’re sued for malpractice.
Other service providers operating in a high risk sector are also attracted to the asset protection available in a company business structure.
Turnover is $100,000 or more
Let’s say you’ve set up your business as a sole trader or partnership.
It often makes sense when you don’t have much turnover and you’re driving the business with full autonomy.
Unfortunately, once business turnover is over $80,000, you actually start paying tax at a rate of 37% and at 45% when earning over $180,000. That’s almost half your income lost to the tax man!
For business owners in this situation, it often makes sense to set up a company business structure since you’re only paying 30 cents to the dollar or 28.5% for small-to-medium enterprises (SMEs) turning over less than $2 million a year.
If you have growth plans for your business, a company business structure makes sense because you can easily raise capital by selling shares.
Let’s just say you’ve come up with a great idea and you need some capital to fund it or you’re running a retail store and you want to open another store in another location.
As a sole trader or partnership, you’re only recourse is to accrue debt but as a company, you can sell shares in the company and keep that capital at a 30% tax rate.
It makes a lot more sense than you being taxed at a higher (individual) tax rate and losing that investment money to the ATO.
A good accountant can advise you whether it’s worth you setting up as a company from the very beginning.
It usually comes down to whether you see the business getting gradually bigger and you need long term capital investment to continue along that growth path.
Can I set up as a sole director?
If you’re running the business by yourself, it’s possible to trade as a sole director with one shareholder.
What usually happens when someone sets up a company is that they have themselves as the director and their shareholder is either their wife, their children or a family trust to keep things flexible.
Limited versus unlimited proprietary company
With a limited proprietary company, shareholders are only liable for the amount of they hold in the company.
If the company is in debt or goes into liquidation, shareholders are not personally liable for those debts. The company name must end with the word ‘Proprietary Limited’.
Unlimited companies must end with ‘Proprietary’ and it’s a structure where shareholders have unlimited liability for debts the company may incur. It’s a structure most often opted for by low risk businesses.
It’s a structure that’s rarely used although the advantage is that shareholder capital can be easily moved and transferred in and throughout the company.
Getting set up
- You need to register the company with ASIC.
- You’ll need a Tax File Number (TFN) and you’ll need to use it when lodging annual tax returns.
- The company itself, as a separate legal entity, will need to lodge an annual company tax return which shows the income and deductions of the company and the company’s income tax payable.
- You’ll need to sign up for an Australian Business Number, which can be registered at no cost.
- Reserving a company name costs around $45 although you may only want to do so if you’re planning to set-up shop right away.
- Company registration is $463 for a proprietary limited company.
- Business name registration is $34 for a year or $79 for 3 years just like sole traders and partnerships.
What other ongoing company requirements are there?
- Since you’re registered with ASIC, you must adhere to the Corporations Act 2001.
- Must make employee superannuation contributions.
- You need to set up a separate business bank account meaning you can’t simply make personal withdrawals to pay yourself a wage (the funds in the business bank account belong to the company).
- You’ll need to register for Goods and Services Tax (GST) when turnover is $75,000 or more.
- In most cases, you’ll be making Pay As You Go (PAYG) instalments to the ATO.
- If you receive personal services income based on your experience and particular knowledge set, like an engineering consultant, your income may be assessed as individual income for personal tax purposes.
- You’re required to notify ASIC of any changes to shareholders including the transfer of shares.
- If you employ family members for income-splitting purposes, you have to make retirement payments (they’re tax deductible!).
You won’t always get the company tax rate!
In circumstances where you’re the sole director and employee doing most of the brunt work in the company, the ATO actually won’t let you keep the tax rate at 30% on the profits you make.
You’ll pay 30 cent to the dollar originally but you’ll then have to pay personal income tax because you’ve earned that income yourself.
An example of this is if you’re a doctor and the sole director of a medical practice.
Since you’re doing all of the work, the company is essentially paying you a taxable wage or a dividend so there’s really no tax benefit.
In addition to this, you’ll have to make the appropriate level of super contributions.
The reason why people in the medical profession operate as a limited company is purely for the asset protection benefits.
There is a high degree of liability in the medical industry and malpractice suits can easily result in millions of dollars worth of damages.
Commercial loans are available
Are you doing some research on starting your own business?
We’re not accountants so we can’t provide you with financial advice.
In fact, it’s essential you speak to a financial professional like an accountant or financial advisor before making a decision to start a business and deciding whether a company business structure is the right ownership you need.
What we can help you to do is qualify for a commercial property loan so you can buy a freehold property so you can starting trading, whether you sell products or supply services.
Call us on 1300 889 743 or complete our free assessment form to find out if you qualify for a commercial loan.