Quite often when setting up your own business, one of the most important decisions to be made is what type of business structure to adopt. There are a number of structures which can be used to carry on a business, each of them having varying legal requirements, liability limitations and tax consequences. In choosing the most suitable form of business structure it is important to have an understanding of the characteristics of each business form and to consider its advantages and disadvantages.
The following is an outline and description of the advantages and disadvantages of the most useful business structures for operating a business.
A sole tradership is the simplest form of business structure with the least legal procedures and costs for implementation.
- You have full control of the business and are entitled to all profits of the business.
- You are entitled to sell or discontinue the business at any time and at minimum legal cost.
- You are responsible for the overall success and running of the company based on your well being and business sense.
- You have unlimited legal liability for debts incurred by the business and for any negligence committed by your employees while conducting the business.
- As a sole trader, you are able to offset any personal income for any trading losses incurred. However, if you make a profit it may be taxed at a higher rate than would apply if a company made the same profit. This occurs because the tax rates at the top levels applying to individuals are higher than those applying to companies.
A partnership is arguably the most common form of business structure for the running of a small business where there is more than one shareholder in the business.
- There are few legal procedures.
- The costs in establishing and maintaining a partnership are again relatively inexpensive.
- You have the ability to combine the labour, expertise, management skills and financial resources of the partners.
- You are entitled to sell or discontinue the business at any time and at minimum legal cost subject to agreement between the partners.
- You have unlimited joint and separate legal liability for debts incurred by the business and for the actions of employees and other partners.
- You may encounter problems where there is a dispute between partners and with the retirement or admission of partners.
- You may require the participation and consent of all or many partners to enter into many legal commitments.
Many of the potential pitfalls of entering into a partnership can be avoided by the careful preparation of a thorough partnership agreement.
- A company is usually owned by a group of shareholders and control is vested in a director or board of directors.
- Generally shareholders have no personal liability with regard to the debts of the company.
- The company structure allows considerable flexibility in the organisation, management and financing of the corporation because there is the capability of having a large number of shareholders with varying rights to profits and control. · Shares can be bought and sold without interfering with the structure of the business.
- Private companies may be set up by individuals, making it a viable option for sole traders.
- In smaller companies, the majority shareholders are also the directors and are often required to personally guarantee bank loans, leasing agreements and rental contracts.
- Directors have certain duties to fulfill in the manner in which they run the company. A breach of any of these duties by a director may attract civil or criminal liability.
- Adopting a company structure involves more expense to form and maintain the business in relation to legal, auditing and accountancy work and general administration.
- There are more detailed legal and financial reporting requirements, one of which is the filing of certain financial records in publicly available registers and, as such, there is less privacy with regard to the company’s financial affairs.
- Any trading losses suffered by the company must stay in the company and be deducted from any future profits or capital gain.
- No tax-free threshold applies to companies.
Discretionary Family Trust
A trust arises where you place an obligation on a person whereby they (the trustee) hold and deal with property transferred to the trust by you for the benefit of the people you nominate as beneficiaries. A trust is formed as a relatively simple and inexpensive mechanism for the distribution of income to any beneficiaries of the trust. The beneficiaries of a discretionary trust have an interest in the trust determined through the exercise of the discretion of the trustee. In other words the beneficiaries merely have a right to be considered, not a right to a share of the trust property.
- In a trust, the trustee has full control of the business with the limitation of acting in the best interests of, and for the benefit of, the beneficiaries to the trust.
- Limited liability may be achieved provided the trustee does not own assets of the trust in its own right.
- The trust is liable for any debts incurred by the trustee when acting on behalf of the trust.
- Any tax losses are the responsibility of the trustee.
- They are not entitled to the tax exempt threshold for land tax purposes.
Joe Kafrouni, Legal Practitioner Director, Kafrouni Lawyers
The information provided by Kafrouni Lawyers is intended to provide general information and is not legal advice or a substitute for it. Business people should always consult their own legal advisors to discuss their particular circumstances. Kafrouni Lawyers makes no warranties or representations regarding the information and exclude any liability which may arise as a result of the use of this information. This information is the copyright of Kafrouni Lawyers.
Liability limited by a scheme approved under professional standards legislation.