One of the key decisions you’ll make when starting a business is its structure.
Your choice of structure will depend on the size and type of business, your personal circumstances and how much you plan to grow the business.
You can change your business structure as your business grows or your circumstances change.
Your business structure can determine your:
- tax liabilities
- responsibilities as a business owner
- potential personal liability
- asset protection
- ongoing costs and the volume of required paperwork.
Find out more about each business structure
A sole trader is the simplest form of business structure and is relatively easy and inexpensive to set up. As a sole trader you will be legally responsible for all aspects of the business. You’ll generally make all the decisions about starting and running your business and you can employ people.
Advantages of being a sole trader
- Simple to set up and operate.
- You retain complete control of your assets and business decisions.
- Fewer reporting requirements.
- Any losses incurred by your business activities may be offset against other income, such as your investment income or wages (subject to certain conditions).
- Allows you to use your individual tax file number (TFN) to lodge tax returns.
- You are not considered an employee of your own business and therefore don’t pay payroll tax, superannuation or workers’ compensation on income you draw from the business.
- Relatively easy to change business structure if your business grows or if you wish to wind things up.
Disadvantages of being a sole trader
- Unlimited liability which means all your personal assets are at risk if things go wrong.
- Little opportunity for tax planning – you can’t split business profits or losses with family members and you are personally liable to pay tax on all the income from the business.
Other factors to consider
You don’t have to register a business name if you use your own name. If you choose not to use your own name you will need to register a business name with the Australian Securities and Investments Commission.
TIP: Before choosing a business name check its availability as a trademark, business name and domain name (your website address). If the name is already registered by someone else as a trademark in Australia, in a class relevant to your business you’d be wise to choose another name. If you register the name as a trademark in relevant classes, this may give you exclusive rights to that name in those classes. Registering only as a business name, company name or domain name doesn’t give you the same type of exclusive rights
Sole traders declare their business income (or loss) as part of their personal income tax return and are taxed at the same rate as an individual.
You will need to register your business for goods and services tax (GST) if your annual turnover is expected to be more than $75,000.
Once the Australian Taxation Office (ATO) has received your income tax return you will be advised if you need to start paying pay-as-you-go (PAYG) instalments. The instalments are a pre-payment of your tax for the following financial year and you will be credited with these instalments on your next income tax assessment.
Until you are required to start PAYG instalments consider putting money aside, or making voluntary ATO payments, to budget for any future tax payments.
Visit the ATO website for more information regarding tax obligations for sole traders.
Personal services income (PSI)
PSI is income from your skills or efforts as an individual. You earn PSI when more than 50 per cent of the income you receive from a contract is for your skills, knowledge or efforts.
A sole trader is responsible for the liabilities of the business. Liability is unlimited and includes all personal assets, including any assets jointly-owned with another person, such as a house.
You are also not covered by workers’ compensation should you injure yourself at work. This may result in a loss of income if you cannot work and you may still be required to pay any expenses for your business, such as loan repayments.
Learn more about the various insurances available for your business.
A partnership involves two or more people going into business together with a view to making a profit. In Western Australia, partnerships are governed by the Partnership Act 1895.
The most common type of partnership entered into by small business owners is a general partnership, where all partners participate to some extent in the day-to-day management of the business.
Advantages of a partnership
- Simple to set up.
- Minimal reporting requirements.
- Shared control and management with other partners.
- A partner’s share of the business’s tax losses may be offset against other personal income, subject to certain conditions.
- Relatively easy to dissolve the partnership.
- Partners are not employees. Superannuation contributions and workers’ compensation insurance are not compulsory for partners.
- Easier to obtain finance as you are not relying on one person's income or assets.
Disadvantages of a partnership
- A partnership is not a separate legal entity. Partners are personally liable for the debts incurred by the partnership, meaning there is no asset protection.
- Potential for disputes over profit sharing, administrative control and business direction.
- Changes of ownership can be difficult and generally requires a new partnership to be established.
Other factors to consider
Before entering into a partnership it is advisable to have a lawyer prepare a formal agreement outlining:
- each partner’s role and level of authority
- each partner’s financial contribution
- a procedure for resolving disputes
- a procedure for ending or resigning from the partnership.
It is important to have a formal agreement because personal liability is unlimited for each partner.
You will be held liable for any shortfall if the business fails and a partner can’t afford to pay their share of any debts. You are also jointly responsible for any debts your partner incurs on behalf of the business, with or without your knowledge.
If there is no agreement in place, each partner is deemed to own equal shares of each asset.
For more information read our guide: Starting a business partnership.
A partnership doesn’t pay tax on its income. Instead, each partner pays tax on their share of the partnership’s net income. Partners may also be required to pay PAYG instalments, in the same way as a sole trader. Individual tax rates apply to a partner who is an individual (a person). They do not apply to a company or trust.
TIP: A formal partnership agreement is an important tax document if profits and losses are not distributed equally amongst the partners.
Visit the ATO website for more information regarding tax obligations for partnerships.
A company is a separate legal entity and can incur debt, sue and be sued. The company’s shareholders (the owners) can limit their personal liability and are generally not responsible for company debts.
A company is a complex business structure and has high set-up and reporting costs. You can form a company as either a private (also known as proprietary) or public entity. A registered company must have at least one director (and a company secretary unless it is a private company). A director is responsible for managing the company’s business activities.
To become a company, an entity must:
- be incorporated under the Corporations Act 2001
- be registered with the Australian Securities and Investment Commission (ASIC).
More information on starting a company is available from the ASIC website.
Advantages of a company
- Limited liability for shareholders.
- Well understood and accepted structure.
- Able to raise significant capital.
- Can carry forward losses indefinitely to offset against future profits.
- Easy to sell and pass on ownership.
- Profits can be reinvested in the company or paid to the shareholders as dividends.
Disadvantages of a company
- Significant set-up and maintenance costs.
- Do not retain complete control.
- Complex reporting requirements.
- Can’t distribute losses to its shareholders.
Other factors to consider
The tax requirements for a company are different to those of other business structures. A company pays income tax on its income (or profits) at the company tax rate. There is no tax-free threshold for companies and tax is paid on every dollar earned.
Visit the ATO website for more information regarding your tax obligations as a company.
Company officers and directors have legal obligations that specify how they perform their duties and manage the company’s affairs. These obligations are outlined in the Corporations Act 2001.
A trust is a structure where a trustee carries out the business on behalf of the trust’s members (or beneficiaries). A trust is not a separate legal entity.
A trustee may be an individual or a company. The trustee is legally liable for the debts of the trust and may use its assets to meet those debts. However, if there is a shortfall the trustee is responsible for the difference.
A trust is set up through a trust deed and there are two main types: discretionary or unit trusts.
In a discretionary trust, the trustee has discretion in the distribution of funds to each beneficiary. In a unit trust, the interest in the trust is divided into units with their distribution determined by the number of units held by each member.
Advantages of a trust
- Reduced liability especially if corporate trustee.
- Assets are protected.
- Flexibility of asset and income distribution.
Disadvantages of a trust
- Can be expensive and complex to establish and administer.
- Difficult to dissolve, dismantle, or make changes once established particularly where children are involved.
- Any profits retained to reinvest into the business will incur penalty tax rates.
- Can’t distribute losses, only profits.
Other factors to consider
A trustee must apply for a tax file number (TFN) and lodge an annual trust return. The trust is not liable to pay tax. Instead tax is assessed to the trustee or the beneficiaries that are entitled to receive the trust net income. In rare circumstances, if the income is not fully distributed to the beneficiaries the trustee pays tax on the undistributed income at the highest marginal rate.
Visit the ATO website for more information regarding your tax obligations as a trust.
Comparing each business structure
The four main business structures commonly used by small businesses in Australia are compared below.
|Business structures||Sole trader||Partnership||Company||Trust|
|Is the structure difficult to set up?||No||No||Yes||Yes|
|Is it expensive to register?||No||No||Yes||Yes|
|Do I retain complete control?||Yes||No||No||No|
|Are there complex reporting requirements?||No||No||Yes||Yes|
|Will my assets (house etc.) be under threat if my business goes into debt?||Yes||Yes||Not as likely||Not as likely|
|Do I receive full profits made from the business?||Yes||No||No||No|
|Can I employ staff?||Yes||Yes||Yes||Yes|
|Do I have to pay myself superannuation, workers comp etc.?||No||No||Yes (if employed by the company)||Yes (if employed by the company)|
|Can I change the legal structure easily?||Yes||No||No||No|
|Do I have the ability to plan tax through avenues like income splitting?||No||Yes||Yes||Yes|
|Is it easy to raise capital?||No||Yes||Yes||Yes|
|Is it easy to dissolve or exit?||Yes||Yes||Yes||Yes|