Am I operating under the correct business structure?

While selecting a legal structure for your new business may seem to be one of the easier choices when setting up operations, it is no less critical.  Selecting the correct structure can help negate some of the biggest headaches for small business, including excessive red tape and unnecessary tax liability.

Options include operating as a:

  • Sole trader
  • Part of a trust
  • Partnership
  • Incorporated entity

It is also important to evaluate these options by asking a few key questions.  For instance:

  • Are you capable of running the business alone? If not, what benefits would a partner bring to the business?
  • What concessions will you be eligible for under different classifications and are these relevant to your business?
  • Are you willing to accept full financial responsibility for the business?
  • Are you happy with full public disclosure of performance?

These will be some of the issues that will need to be addressed, depending on the form your business takes. The majority of new business owners will start small, and the logical choice will be to register as a sole trader. This often makes sense for SMEs as it is a relatively inexpensive option, with fewer government regulations.

As a sole trader you are under no obligation to shareholders, and are not required to report your results. All profits will also go to the owner, but this also means the owner accepts sole responsibility for the finances of the business and these are usually intertwined with the their personal finances. Should things go wrong, there is no one to share the fallout with and as the company is not a separate entity, all outstanding debts will sit wholly with the owner.

A partnership can help circumvent some of the pressures associated with sole trading, as shared responsibility brings with it shared risk as well as a number of other advantages such as extra capital and expertise. There are also certain tax advantages to forming a partnership and as with sole traders, there is also no disclosure clause.

A proprietary limited company, however, requires public disclosure and can involve a number of taxation and regulatory pros and cons. Yet as daunting as incorporation may seem, once a business experiences substantial growth, it can make good financial sense to detach the business from its owner. Having the business operate as a separate legal entity effectively limits liability, although the directorship has its own set of unique responsibilities.

For further information, please see Profits or growth? Selecting the right strategy for your company  or Five fatal business planning mistakes >>

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