Business Structures: Choosing The Right Type Matters

Four Most Common Types of Business Structures in Australia

Operating a business is not for the faint of heart – it takes hard work, consistent planning and a vision to see your ambitions come to fruition. We understand though when it comes to picking a business structure, there’s more to consider than meets the eye.

As we go through these structures, it’s important to note that the industry you’re operating in and the scale of activity you anticipate achieving will help form your decision.

Below are the four most common business structures in Australia.

1. Sole Trader (Individual)

The Sole Trader business structure is best suited for small business owners and tends to centre around the owner’s personal skills and talents. Sole Traders frequently conduct business under the owner’s name (e.g. Jenny Lee), or they can register a business name (e.g. Jenny’s Automotive). This structure provides for a simple, inexpensive arrangement that provides you with complete control over business decisions and operations with minimal reporting requirements.

Key Features of the Sole Trader Business Structure:

• Simple and low-cost to establish
• Relatively easy structure to change should your business outgrow or wind up in future
• Sole Traders are fully liable for any debts incurred (which may extend to the owner’s personal assets)
• Sole Traders are taxed in their personal name at marginal rates on net business profits generated
• The business owner has direct control over the business and reaps all the rewards of its success
• Sole Traders can employ and pay staff but cannot be employees of their own business. Therefore, any tax payable or super contributions must be managed separately. This is where would fall into the PAYG Tax Instalment system and have the option to make personal concessional (deductible) contributions to their nominated super fund, up to the annual limit.

Costs: The Sole Trader structure has low costs and minimal legal requirements to establish.

2. Partnerships 

A Partnership business structure is a formal arrangement between two or more parties to manage and operate a business. The structure of these parties can vary in addition to the partnership itself i.e. a partnership of 3 trusts. In this structure, risks and rewards are shared by each partner. A Partnership has its own Australian Business Number (ABN) and Tax File Number (TFN) however it should be noted that a Partnership is not a separate legally entity. It is highly recommended for the owners to develop a Partnership Agreement to explicitly set out the terms and conditions of the Partnership for security purposes.

Key Features of the Partnership Business Structure:

• Variety of skills can be pooled together
• Profits and losses of the business are shared amongst the partners
• A Partnership automatically dissolves on the death of one of the partners
• A Partnership must lodge an Income Tax Return, but the Partnership does not pay any tax itself, this is the responsibility of each partner
• Taxable income or loss is distributed to the Partners according to the Partnership Agreement. If no agreement exists, income and losses are split equally among the partners
• There is unlimited liability, meaning each partner bears the total responsibility of the business liability if other partners are unable to fund their share
• Individual partners cannot be employees of the Partnership and therefore cannot receive a wage or superannuation guarantee contributions. However, partners can make their own personal concessional (deductible) contributions up to the annual limit.

Cost: Setting up a Partnership is inexpensive. A Partnership Agreement is highly recommended.

3. Companies

A Company is a separate legal entity that can be formed by one or more parties to operate a business. In Australia, there are two types of companies: Public and Private. Private companies are more common across small to medium sized business due to the increased regulation and reporting requirements for public companies. Company shareholders own the business, and directors are appointed to manage them.

Key Features of the Company Business Structure:

• Companies are separate legal entities, and the assets and liabilities owned by the Company are completely separate from the directors and shareholders
• Company profits remain in the business until they are paid out to shareholders by way of dividends
• The Company is required to lodge an annual tax return and pay tax. Profits are taxed at a flat rate, as opposed to marginal rates
• Individual owners of the company can be employees of the business receiving a wage and super guarantee contributions
• There are increased regulations that must be complied with, and directors can face serious penalties for breaching these regulations.

Costs: Setting up and maintaining a Company is more expensive due to establishment and on-going compliance costs.

4. Trusts

Trusts are a popular business structure in Australia due to their flexibility and tax benefits. Operating in a Trust structure, the business is managed by a Trustee, who can be either a Company or an individual, on behalf of the beneficiaries. The Trust is required to have its own Tax File Number (TFN) and lodge its own tax return on an annual basis. The beneficiaries include their share of income in their personal tax returns and pay tax at their individual marginal rates.

There are different types of Trusts available, but the two most common ones are Discretionary and Fixed Trusts. Fixed Trusts provide beneficiaries with a fixed percentage of the income based on their ownership of the Trust, while Discretionary Trusts offer more flexibility when distributing income. The Trust Deed outlines the powers of the Trustee and the operational procedures of the Trust.

While Trusts offer tax benefits, they also have higher compliance and establishment costs compared to other business structures such as Sole Traders or Partnerships. Corporate Trustees can provide greater asset protection than individual Trustees but also come with additional costs associated with maintaining the corporate structure.

Key Features of the Trust Business Structure:

• The Trustee manages and holds the business assets on behalf of the beneficiaries. The Trustee can be either a Company or one or more individuals.
• The Appointor holds the ultimate power to appoint and remove the trustee.
• Corporate Trustees offer a high level of asset protection compared to Individual Trustees.
• Fixed Trusts are required to pay a set percentage of income to their beneficiaries each financial year, based on their proportional ownership of the Trust.
• Discretionary Trusts allow for more flexibility in terms of income distribution to beneficiaries.
• Trusts are required to file an annual tax return and report profit distributions to the ATO.
• Beneficiaries must include their share of income from the Trust in their personal tax return and pay tax based on their individual marginal rate.

Costs: Establishing and maintaining a Trust involves higher compliance and establishment costs.

Comparing Australian Business Structures

Why is Correct Business Structuring Essential?

Choosing the appropriate business structure can significantly impact various aspects of your business, such as tax payments, asset protection, ongoing expenses, and compliance obligations. It is important to know how your structure will support your business and daily operations. Let’s look into some considerations in further detail.

 1. Tax Implications

Every business structure has distinct tax implications, and the nature and extent of your business operations can heavily influence the most effective structure to adopt. Each entity pays a vastly different amount of tax, all determined by the legal structure the business operates under.

For instance, in the 2023 and 2024 financial years, profits generated in a Company are taxed at a fixed rate of either 25% or 30% (dependent whether they’re a base rate entity or not). Sole Traders who earn the same amount of income are taxed at their marginal rates, which can be as high as 47% (including the Medicare Levy)!

Although changing your business structure can now be done almost immediately, tax implications may arise when making changes – namely, Capital Gains Tax. There are concessions available to small businesses to alleviate the tax burden of these transitions, but they come with specific eligibility requirements.

2. Asset Protection

The most effective way to safeguard your assets is through a Company or Trust structure. This is primarily due to these structures being distinctly separate legal entities from their owners, and are responsible for their own liabilities.

When a business is operated through a company structure, there are clear distinctions between business and personal assets. In the unfortunate event of Company liquidation or litigation, personal assets should be protected however there are certain obligations that a director can be held personally liable for – primarily GST, PAYGW and compulsory super guarantee.

It is important to note that Trusts can provide the same level of protection, provided that you have a corporate trustee as opposed to an individual trustee.

 3. Costs of Maintaining the Structure

Utilising Companies and/or Trusts as business structures have ongoing annual costs that must be paid to remain compliant. Every year, the entity must prepare financial accounts and file a tax return, which can lead to costly accounting fees. In addition, Companies are required to pay ASIC an annual review fee to keep their registration active as well as sign off on the company’s ability to pay its debts on time and in full.

Sole traders and Partnerships do not have these ongoing costs to keep the business active.

4. Ensuring Compliance in Your Industry

The appropriate business structure can vary depending on your industry. For example, if you run a basic hairdressing salon or a small handyman service, you may benefit from a low-cost structure like a Sole Trader. In contrast, professionals like doctors, lawyers, and builders who deal with numerous clients and may be exposed to liability or litigation issues require a secure structure that protects their assets.

The business structure can be subject to minimum requirements depending on your industry. Businesses that contract with government organisations or operate in a highly regulated industry, such as Pharmacies, are frequently required to operate their business through a specific structure.

The advantages of a sound business structure are significant for futureproofing your operations. Keep in mind that the structure you intend to operate through now may not be suitable for your business in years to come.

How to Set Up Your Business Structure

The process of setting up your business depends on the structure you choose. Here are some essential steps to follow:

For Sole Traders:

• Apply for an ABN in your name (if you have a TFN)
• Determine if you need to register for GST
• Optional: Register a business name with ASIC
• Obtain the necessary insurance coverage
• Prepare employee contracts (if you are hiring)
• Register for PAYG Withholdingand Single Touch Payroll (if employing staff)
• Subscribe to online accounting softwareto simplify administration and to comply with Single Touch Payroll requirements
• Open separate bank accounts for your business and personal finances

For Partnerships/Companies/Trusts:

• Choose a name for your entity
• Apply for an ABN and TFN for your entity
• Determine if you need to register for GST
• Optional: Register a business name with ASIC
• Obtain the necessary insurance coverage
• Prepare employee contracts (if you are hiring)
• Register for PAYG Withholdingand Single Touch Payroll (if employing staff)
• Subscribe to online accounting softwareto simplify administration and to comply with Single Touch Payroll requirements
• Open a bank account in your entity’s name
• Obtain necessary legal documents, such as partnership agreement, company constitution, or trust deed

Note that Partnership, Company or Trust structures are complex and may require additional processes. It is recommended to consult an accountant or business adviser and possibly a solicitor for legal advice.

Helping You Decide on Your Business Structure

It’s worth remembering you’re not forever tied to the business structure you initially choose, however making the right decision based on your current situation and goals can save you time, money and hassle down the track. It is crucial to seek input from stakeholders when choosing a structure so you are across what your responsibilities to them will be. This includes business partners, family members, solicitors, and business advisers.

Gain the assistance of an experienced accountant or business adviser when choosing the right business structure, ensuring they take into consideration your unique circumstances. Our team at BLG Business Advisers are happy to help, as Wollongong Accountants who service right around Australia. Talk with us today to gain clarity and create a positive future for your business.