It's a common choice for a newbie business owner to operate using a sole trader structure, simply because it's fast, easy and cheap to set up with minimal ongoing costs.
However, as the business grows, you may find yourself outgrowing the sole trader structure. If you hire employees, intend to seek investment to expand your business or simply wish to manage your personal liability, you may consider changing to a company structure.
What is a Company Structure
The law treats a company as a separate legal entity. This means that you will not be held personally responsible for the actions of your business. A company structure is also beneficial as it continues to survive even after the owners and directors can no longer run its operations.
Benefits of a Company Structure
- Limit your personal liability as the personal assets of the owners cannot be applied for the payment of debts of the company, in normal cases.
- Minimise tax liability as the company’s income is assessed as a separate entity. The profit of the company can be split into the retained earnings of the company after paying wages to the business owner, and income of the owners by way of share dividends. The company's net profit is taxed based on the corporate tax rate which is lower than the marginal tax for individuals.
- Ability to retain profits in the company to fund future growth.
- Create a better and more legitimised brand image to customers and suppliers.
- Raise significant capital for the business via securing funding from investors.
Capital Gains Event
The sale of a sole trader business to a company is a capital gains event, which would normally create a taxable capital gain for the sole trader. Under the replacement asset rollover, the capital gain on the sale of the business to the company is deferred if the transaction is structured as follows:
- The sole trader transfers the business assets to the company (including any business liabilities) to the company in exchange for ordinary shares in the company.
- After the transaction is complete, the sole trader must own 100% of the ordinary shares in the company.
Implementation & Process
- Establish the company structure.
- Prepare the business sale agreement.
- Transfer (sell) the sole trader's business assets and liabilities to the company in exchange for ordinary shares in the company.
Note: After the transaction is complete, the sole trader must own 100% of the ordinary shares in the company, but this does not prevent the company from subsequently issuing additional shares to another party, so as to bring a new investor or partner into the business.
At Fortiz Accountants, we routinely set up structures for business owners. Contact us if you are a sole trader with a growing business wanting to find out whether it's worthwhile operating under a company structure (or even a trust structure) before taking the next step.