The goal when starting a business is to generate growth. But when starting a business as a sole trader, sometimes your business can grow to the point where a simple structure becomes unsustainable.
For sole traders, it's common to reach the point where you may have:
- Achieved growth beyond your own means
- Began looking to adapt to a changing market
- Been wanting to make the business more tax effective as your profits grow
When you’re a business owner looking for a smarter way to maintain sustainable growth, changing business structures from sole trader to a company structure is a beneficial move.
The differences between a sole trader and company structure
It's important to understand the difference between being a sole trader and being a company. The below table compares these differences:
[td]The business owner has complete control over their business[/td]
[td]Company director shares control of business decisions with other shareholders (if applicable)[/td]
[td]Unlimited personal liability for all aspects of the business structure[/td]
[td]Company takes liability for any business debts[/td]
[td]Operates under individual tax rates[/td]
[td]Company tax rate capped at 27.5%[/td]
[td]Receives the tax-free threshold of $18,200[/td]
[td]No tax-free threshold[/td]
[td]No governance plan needed[/td]
[td]Company structure operates under strict governance agreements[/td]
[td]No financial reporting obligations[/td]
[td]Annual financial reporting obligations to ATO and ASIC required[/td]
[td]Relatively simple individual tax return lodgement each year[/td]
[td]Company lodges a separate annual tax return[/td]
[td]Business income can be deposited in personal bank account, and money withdrawn at any time[/td]
[td]Company income goes into a company bank account and distributed to the owner as a wage instead[/td]
[td]Discount on Capital Gains Tax events[/td]
[td]No discount on Capital Gains Tax events[/td]
When to change business structure from sole trader to company
1. Experiencing sustained business growth
A sole trader is suitable for a personal business in the early stages of growth. But if your business continues to grow, and your annual profits start to increase into a higher tax bracket, then it’s a good time to consider changing to a company structure.
Ongoing, sustainable growth as a sole trader exposes the owner to personal tax rates, meaning that they may end up paying up to 47% tax on their income.
2. Plans for business expansion
If you have a long-term plan to grow your business, then it’s prudent to consider changing to a company structure. This could be plans to open a new business location, or to create franchise opportunities.
3. Mitigating potential risk
When it comes to risk, under a company structure it’s understood that the business has the right insurances in place. This is particularly important when it comes to physical labour organisations, and allows clients a sense of security that their contractors are covered, should any accidents happen.
A company also places a level of security between your personal assets and business assets, thereby reducing personal risk and limiting your liability.
4. Bringing partners into the business
Being a sole trader can sometimes be a lonely affair, and there may come a time that you want to bring on a new business partner or director. While this is possible as a sole trader, there are no binding agreements or governance principles in place.
Changing to a company structure ensures all business decisions are made in agreement, with clear rules as to how they operate.
5. Improving commercial opportunities
Operating as a company can project the image of a larger, more sustainable commercial enterprise, instead of a lonely sole trader doing all the work themselves.
Under a company structure, businesses are more easily able to take on investors. Investors can easily see what percentage of the business they’re investing in, and where their investment is going. As a sole trader, the investment goes directly to the owner, without any clear structure.
How to change from sole trader to company
Follow these steps in order to change your business structure from a sole trader to a company. At Liston Newton Advisory, we are able to take care of this process with you as you go through the set up of your company.
- Contact ASIC to notify about forming a company. Update any business name details with ASIC, and change your registration to a company.
- Receive your Australian Company Number. You need this to register an ABN for a company.
- Register a new ABN.
- Determine the governance and reporting obligations of your new company.
- Establish binding rules of governance, whether it’s by a set of replaceable rules, or a constitution.
- Choose company officeholders. This may not be necessary if you’re the sole director.
- Determine your company’s share structure. It’s a legal obligation when your business starts to grow and you take on shareholders.
- Change any relevant business or postal address information.
- Update all documents, such as invoices, letterheads, email signatures, and client agreements to include new company details.
- Update your registration details with the ATO, and ensure you’re set up to pay the right taxes.
- Inform your clients and suppliers that your business is now operated under a company structure.
Reasons not to change to a company structure
Sometimes, changing to a company structure may not always be beneficial. There can be times when opting to remain as a sole trader is the smarter choice.
1. Retaining organisational control
Operating under a company structure means giving up a measure of control over your business. If you prefer being in complete control, it’s recommended to remain as a sole trader.
2. You experience limited growth
While operating as a company provides room to expand your business, sometimes that just doesn’t happen.
- If your business is stable and successful, but you don’t clear more than $120,000 a year, it’s recommended to remain as a sole trader.
- At this level of income you’re still on the same tax bracket as a company structure, with the added benefit of the $18,200 tax-free threshold.
3. No time to take on other responsibilities
A sole trader business structure is relatively easy to manage, and has minimal reporting and financial obligations. Under a company structure, the business owner is the director, which places the taxation and financial reporting obligations firmly on your shoulders.
This can get cumbersome when work is busy, and provides an added level of stress to running a successful business.
Changing structures in action
One of our current clients has recently created an online betting platform as a fun way to earn extra money. However, its easy-to-use nature saw it quickly gain popularity, and the business started to grow more rapidly than anticipated.
Due to this growth, a sole trader structure was no longer appropriate. The owner approached us for advice on how to manage the burgeoning business effectively.
Given the growth the business was experiencing, we recommended changing to a company structure.
This change in structure achieved many things, including:
- Adding a level of security to the owner
- Allowing them the opportunity to bring owners and investors onboard
- Enabling future growth
- Offering a comfortable level of asset protection
- Protecting their assets to mitigate any unforeseen financial or legal issues
It also meant that they qualified as an early stage innovation company, which enabled them to access the 20% tax offset for future investors, and the ability to access R&D tax incentives in the future.
Changing to a company structure allowed the owner the opportunity to transform their side business into their main source of income, and structure it for sustainable growth.
Get the support you need when making the change
Businesses, by nature, are designed to grow. If you start business life as a sole trader, with the intention of sustained growth, then changing business structures to a company is a sensible move for the future.
It’s an exciting step in the life of any business, but it can be difficult. It’s crucial to get the right advice.