Choosing the right business structure is a critical decision that requires balancing various factors, including legal liability, tax implications, cost, and business goals. Each option has its pros and cons, and what is ideal for one business may not be suitable for another.
Starting a small business is an exciting journey filled with dreams of success and independence. While catchy business names, trustworthy branding, and engaging digital presence play vital roles, the foundation of your business—its structure—can significantly impact your journey.
Selecting the appropriate business structure is not just about ticking a box; it influences almost every aspect of your business. From daily operations to tax obligations and even personal liability, the structure you choose can shape your business’s trajectory. Factors such as cost, business size, family involvement, and risk tolerance should be considered.
Whether you operate as a sole trader, a partnership, a company, or a trust, each structure has its unique advantages and challenges. Here are some important considerations to guide you in making an informed decision:
Sole trader – simplicity and direct control
Many small operators begin their entrepreneurial journey as sole traders, and some continue with this structure throughout their business life[i].
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Pros |
Cons |
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Ease of Setup: Starting as a sole trader is straightforward, with minimal paperwork and lower initial costs. |
Unlimited liability: One significant drawback is unlimited personal liability. If the business incurs debts or legal issues, your personal assets are at risk. |
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Lower running costs: With fewer business reporting obligations, running costs are generally lower compared to other structures. |
Tax implications: All business income is taxed at your personal income tax rate. Moreover, you can’t split profits or losses with family members, which could result in higher tax liabilities. |
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Full control: As the sole decision-maker, you have complete control over the business operations and profits. |
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For many small businesses with low financial risks, starting as a sole trader is often a practical choice. However, as your business grows, you might need to reassess this structure.
Partnership – shared responsibility and resources
A partnership involves two or more people pooling their resources to run a business together, sharing profits, losses, and responsibilities[ii].
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Pros |
Cons |
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Combined expertise and resources: Partners can complement each other’s skills and share the financial burden. |
Joint liability: All partners are jointly liable for the business’s debts and obligations, meaning each partner’s personal assets are at risk. |
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Relatively low costs: Partnerships can be less expensive to establish and operate compared to companies and trusts, with minimal reporting requirements. |
Potential for disputes: Disagreements can arise, potentially straining relationships and affecting business operations. |
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Flexibility in profit sharing: Profits and losses can be distributed among partners, potentially optimising tax liabilities. |
Tax considerations: Each partner reports their share of income or loss in their tax return and pays tax accordingly. Withdrawals from the partnership are not deductible for tax purposes and are not considered wages. |
Partnerships can be a good option if you have a trusted business partner with complementary skills. However, it’s crucial to have a well-drafted partnership agreement to outline roles, responsibilities, and procedures for resolving disputes.
Company – separate legal entity and limited liability
A company is a separate legal entity from its owners, providing distinct advantages and additional responsibilities[iii].
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Pros |
Cons |
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Limited liability: Shareholders’ liability is generally limited to the amount unpaid on their shares, protecting personal assets. |
Higher costs: Setting up and maintaining a company is more expensive, with fees for registration, annual ASIC fees, and higher accounting costs for annual financial reports and tax returns. |
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Tax advantages: Companies often benefit from lower tax rates compared to individual income tax rates. Additionally, you can employ yourself and claim tax deductions for wages. |
Complex reporting requirements: Companies are subject to more stringent regulatory and reporting requirements. |
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Professional image: Operating as a company can enhance credibility and professional image, potentially attracting more clients and investors. |
Personal Services Income (PSI) rules: If over 50% of your business income is generated from your personal efforts, it’s considered PSI, and you’ll be taxed at your marginal rate rather than the company tax rate. |
Companies are ideal for businesses seeking limited liability and growth potential. However, the increased complexity and costs require careful consideration and planning.
Trust – flexibility and asset protection
A trust is a separate legal arrangement where a trustee holds and manages assets on behalf of beneficiaries[iv]. Trusts can be beneficial but also complex and costly.
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Pros |
Cons |
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Asset protection: Trusts can provide a layer of protection for business assets against creditors. |
High setup and maintenance costs: Establishing a trust involves legal fees, and ongoing administrative tasks can be costly and time-consuming. |
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Tax flexibility: Income can be distributed to beneficiaries, potentially reducing the overall tax burden. |
Complexity: Trusts are complex to manage and require professional advice to ensure compliance with legal and tax obligations. |
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Estate planning: Trusts can be an effective tool for managing and transferring wealth. |
Distribution of income: All income must be distributed to beneficiaries each year, or else it’s taxed at the highest marginal rate. Losses cannot be distributed. |
Trusts are suitable for businesses seeking asset protection and tax planning benefits. However, their complexity necessitates professional guidance.
Personalised advice and regulatory understanding
The journey of selecting the best business structure is not one-size-fits-all. It’s a decision that has far-reaching implications for your business’s success and sustainability. Whether you opt to start as a sole trader, form a partnership, establish a company, or set up a trust, understanding the benefits and challenges of each structure is vital.
An accountant can help you navigate these choices, ensuring that you make informed decisions aligned with your financial goals and business aspirations. With the right foundation, you can confidently build a thriving enterprise.
If you would like more information on how to choose the best business structure for your business, or if you would like to discuss the regulatory landscape, contact our office today.
DISCLAIMER: All information on Focus Wealth Advisers is general in nature and does not take into account your personal objectives, financial situation or needs. You should consider your personal circumstances and seek professional advice before making any decisions based on this information.
[i] LegalVision (2023) Advantages and Disadvantages of Operating as a Sole Trader
[ii] Liston Newton Advisory (2019) The pros and cons of setting up a partnership business in Australia
[iii] Business.gov.au (2024) Difference between a sole trader and a company
[iv] CMI Group (2024) Pros and cons of running your business through a Trust
