Deciding on the right business structure is crucial for any entrepreneur, as it can have significant implications for your tax obligations, legal compliance, and asset protection.
However, the choice of business structure is more than just a one-time decision that remains static throughout the life of your business. As your business grows and evolves, it may become necessary to re-evaluate your current structure and consider other options, such as sole trader, company, trust, or partnership.
For example, if you started your business as a sole trader but have now outgrown it, you might want to consider changing to a company structure.
But is it the right decision for your business?
If you are looking to change sole trader to company structure, this article will explore the pros and cons you can expect and help you make an informed decision.
How Does the Structure You Choose Impact Your Business Obligations?
Choosing the most appropriate structure for your business is an important decision that will influence many aspects of your operations, including tax, legal, financial and reporting obligations.
For example, as a sole trader, you declare your business income on your personal income tax return and are taxed at your marginal rate, perhaps even making good use of the tax-free threshold. Generally speaking, this structure is simpler to run and has fewer reporting requirements than a company. However, as a sole trader, you are also personally liable for any debts and legal obligations that arise from your operations as a business owner.
On the other hand, running your business as a new company means it is a separate legal entity, and you have limited liability for its debts and legal issues. It also has a relatively low company tax rate, which could be lower than your personal tax rates as an individual. As such, this structure may provide better protection for your personal assets and profit margin compared to operating as a sole trader. Just remember that it also has more complex reporting requirements and may incur additional ongoing costs.
For example, companies require more business registrations outside of an Australian Business Number, such as with ASIC, and must appoint directors and a company secretary and file separate annual tax returns. Companies are also subject to a flat tax rate on their profits, which differs from the personal income tax rates applied to sole traders.
Ultimately, your chosen structure depends on your business goals, the nature of your operations, and risk tolerance.
It’s common for entrepreneurs to start their businesses as sole traders, particularly when the business is small and has relatively low income and expenses. But, as the business grows and generates more profit, switching to a company structure may become more advantageous.
You may be interested in reading our side-by-side comparison of a Sole Trader and Pty Ltd Company.
When Should You Consider Changing Your Sole Trader Structure?
There are several reasons why you might consider restructuring your business, even if it’s already established with a particular structure.
Here are some common situations when restructuring may be beneficial:
- Your business is growing rapidly: If your business is expanding quickly, you may find that your current sole trader business structure can no longer support your growth. In this case, switching to a company structure may provide greater flexibility and scalability.
- You want to limit personal liability: As mentioned earlier, running your business as a company can provide better asset protection. If you’re concerned about personal liability and want to protect your assets, it may be worth considering a company structure to separate your assets from your business assets.
- You’re seeking investors or funding: If you’re looking to raise capital from investors, a new business partner, or apply for funding, a company structure may be more attractive to potential investors. Investors may be more comfortable investing in a company, as it has greater legal and financial protections than a sole trader.
- You’re looking for greater tax efficiency: Another key reason to consider restructuring your business is to benefit from different company tax rates. As a sole trader, your business income is included in your personal tax return, meaning you pay income tax at your marginal rate. And the more profits you make, the higher your marginal tax rate will be. By contrast, companies tax at a flat rate, which can be more advantageous for businesses with high profits. For example, in Australia, the current corporate tax rate for small and medium-sized enterprises (SMEs) is 25%, while larger corporations are taxed at a rate of 30%.
- You’re planning for succession: If you plan to pass your business on to a family member or sell it in the future, a company structure may make it easier to transfer ownership and assets.
What Other Factors Should You Consider Before Changing Your Business Structure?
Before making any decisions about changing your business structure, there are several factors you should consider to ensure that it’s the right move for your business. One important consideration is compliance with the General Anti-Avoidance Provisions (GAAP) enforced by the Australian Taxation Office (ATO).
GAAP is a set of rules that prevent businesses from restructuring purely for tax avoidance purposes. Essentially, it’s designed to restrict businesses from engaging in aggressive tax planning to avoid their tax obligations. If the ATO suspects that a sole trader or partnership has changed its structure purely to avoid tax, it may investigate and take enforcement action.
To avoid violating GAAP, you’ll need to provide the ATO with valid reasons for restructuring your business, such as a change in business activities, expansion, or succession planning. It’s important to note that simply switching to a company structure to reduce your tax bill may not be a valid reason in the eyes of the ATO.
Samantha has been running a successful photography business as a sole trader for several years. However, as her business has grown, she has found that she works longer hours and needs help to keep up with demand. So she decides to expand her business by hiring additional photographers and support staff.
After consulting with her accountant and seeking legal advice, Samantha decided to restructure her business as a company to take advantage of the reduced tax rates and provide greater protection for her assets. She provides the ATO with valid reasons for the restructuring, including the need to accommodate the expansion of her business and the desire to protect her assets.
Samantha follows all legal and regulatory requirements associated with the restructure, including registering her company with ASIC and filing all necessary paperwork. She also works with her accountant to ensure that her business complies with all tax obligations associated with the new structure.
As a result of the restructuring, Samantha can reduce her tax liability and provide greater protection for her assets. She can also take advantage of the reduced tax rates for companies, which allows her to reinvest more profits into her business to support its continued growth.
In this case, Samantha had valid reasons for restructuring her business, including the need to expand and the desire to protect her assets.
In addition to GAAP, there are other factors you should consider before changing your business structure. For example, you’ll need to consider the costs and administrative burden of running a company, the impact on your business relationships (such as with suppliers and customers), and any legal or regulatory requirements associated with your new structure.
Seek Professional Advice Before Switching Business Structures
Ultimately, the decision to change your business structure should be based on carefully assessing all relevant factors, including your business goals, financial situation, and long-term plans. Seeking professional advice from a qualified accountant can be a valuable step.
At KNS Business Advisors and Accountants, our team of experienced professionals can provide the guidance and support you need to make an informed decision about your business structure.
Our accountants and tax advisors can assist you in assessing your current business structure and financial situation and help you understand different structures’ potential benefits and drawbacks.
We can also advise you on each structure’s legal and regulatory requirements and help you ensure compliance with all relevant laws and regulations.
If you’re considering restructuring your business or need guidance on selecting the right structure for your new business, don’t hesitate to reach out to KNS Accountants.
Choosing the right business structure is an important decision that can significantly impact your business obligations, liabilities, and overall success.
While starting as a sole trader may be the right option initially, as your business grows, it may become necessary to restructure a company to better protect your assets, reduce tax liability and accommodate expansion.
Seeking professional advice from an experienced accountant or lawyer can help you make informed decisions and ensure legal and regulatory compliance. At KNS Accountants, we offer expert guidance and support to help you make the best choice for your business and ensure long-term growth.
Contact us today to schedule a consultation and learn how we can help you achieve your business goals.