Whether you decide to operate as a sole trader or a company, it is essential that you understand the advantages and disadvantages of both business structures. When considering a business structure, it is important you choose one which suits your business needs.
What are the Key Features of a Sole Trader?
A sole trader is a simple business structure which is relatively easy and low cost to establish. Firstly, you have greater control over the business. You are held legally responsible for all aspects of your business including debts, liabilities and its day to day management. Moreover, there are less stringent reporting requirements for sole traders. You only need to keep your financial records for a minimum of 5 years.
What are the Main Disadvantages of a Sole Trader?
The lack of personal asset protection that the sole trader business structure offers is its main disadvantage. Although establishing a sole trader company is much easier than a company, you will have unlimited liability. This means that your personal assets are at risk if your business goes wrong. Another key disadvantage is the tax obligations on a sole trader. This is quite restrictive because you cannot split your business’ income and share with family members. As such, you will be personally liable to pay tax on all income derived from the business.
Unlike companies, sole traders do not have their own TFN. Rather your business will share your personal TFN to lodge tax returns. In consequence, it is a disadvantage to be a sole trader if you wish to reduce your tax liabilities. There may also be tax implications in the event of death or divorce. Ultimately, sole traders do not have long life spans and will die along with its owners.
What are the Key Features of a Company?
Unlike a sole trader, a company is a separate legal entity which is a much more complex business structure to start and run. A key advantage of operating a company is that it has limited liability, which means that all the company’s debt and liabilities belong to the company. In other words, this protects your personal assets from any potential losses incurred by the business. Clearly, companies are a more popular business structure because it can continue its operations even if a director dies.
Furthermore, with a separate ABN and TFN, companies have greater flexibility for tax planning, and income can be split between family owners for tax purposes. Another key advantage is that companies have greater access to capital where investors can invest in your company which can enable its growth in the market.
What are the Main Disadvantages of a Company?
With accounting fees and high costs associated with this type of business structure, companies can be costly and time-consuming to establish and operate. As such, companies have much more stringent obligations under the Corporations Act 2001, where the company directors must complete a declaration of solvency each year.
Some of the director duties include having to:
- Update ASIC within 28 days of any keys changes to the company
- Keep financial records
- Understand and comply with all your obligations as a director
Likewise, companies must lodge annual company tax returns, and this usually requires hiring accountants to complete this. In the long-run, companies are expensive to establish and run. However, it can also be super rewarding financially if you prefer having limited liability and greater flexibility with company taxes.
Whether you decide to operate as a sole trader or a company, largely depends on the type and size of your business. If you simply wish to operate a small business where you employ only 1-2 people, then a sole trader structure is adequate. On the other hand, if you wish to employ a large number of people and your business performs larger projects with greater liabilities, then a company structure will be more appropriate.
If you want more information on sole traders and employees, please see our other article here.
Should you require further legal advice please contact our legal team at OpenLegal on 1300 337 997 to discuss your business needs.