Is it time to turn your business into a company? – StartupSmart

 

When your business grows and starts taking on several employees and doing bigger deals, it could be time to turn into a company. But it’s a very big step.

 

Many business owners start out as sole traders. This makes a lot of sense because it’s the easiest and cheapest way to get your enterprise off the ground, but as your business grows, it’s a good idea to weigh up whether it’s worthwhile turning your business into a company.

 

It’s not a step that should be taken lightly. Incorporating your business means more regulation to comply with and higher costs – so make sure you seek advice from your accountant before making a final decision. And of course, they might advise that a different structure altogether – such as a trust or partnership – is more appropriate.

 

Here are a few benefits for turning your business into a company if the time is right:

 

Protection from debts

 

This is one of the most clear cut benefits of incorporating.

 

If you operate as a sole trader or a partnership as opposed to a company and you get into debt, your creditors can repossess your personal belongings or private assets to recoup the debt if you’re unable to pay.

 

But if a limited liability company gets into debt and cannot pay, that debt remains the responsibility of the company, not of you personally, although there are exceptions to this rule, such as debts to the Australian Taxation Office.

 

This is not to say that you can irresponsibly rack up debts as a company owner. Firstly, you’d be leaving others out of pocket and, secondly, as a company director you can still be held accountable for breaches of the law.

 

In fact, the Australian Securities and Investments Commission says directors are required to be honest and careful in their dealings at all times and must make sure their company can pay their debts on time and keep proper financial records.

 

(And unless your company has its own assets or a strong track record, you as a director might have to guarantee its debts anyway, meaning you’ll still be liable.)

 

Tax

 

A lot of people see the 30% rate that companies pay and assume they’ll be better off. But this isn’t always the case.

 

There is no tax free threshold or sliding scale as there is for income tax, so your business would have to be profitable enough to take advantage of the lower rate. Make sure you do all your sums or have your accountant do them for you before you assume you’ll be better off.

 

The main advantage of the lower tax rate is that you can retain 70% more of your after-tax profits to reinvest in your business or help with your cash flow.

 

If you’re on a high personal income tax bracket you might not to be able to hold onto so much. Also, when you pay yourself a wage from the company the 30 cents in the dollar tax paid can be offset against your income tax, meaning you don’t pay twice.

 

There are also capital gains tax benefits to consider – companies pay full capital gains when they sell an asset, whereas individuals receive a 50% discount if they’ve owned it for more than a year.

 

But the good news is there are generous concessions for small companies, which in some circumstances can amount to a 75% tax discount for the sale of a business. As with income tax, you should explore this thoroughly before making any decisions.

 

Ownership and selling

 

What’s known as a proprietary limited company is the most common type of company used by small business. It differs from a public company in that it can’t list on the stock exchange or raise money from the public and can’t have more than 50 owners who don’t work for the company.

 

Nonetheless, a proprietary limited company does have options for raising funds that aren’t so easily available to the sold trader. They can sell shares to existing shareholders or employees of the company.

 

Compared with other business structures, the transfer of company ownership can be relatively simple. Selling the business is just a matter of selling the entire company, including its assets; selling a business owned by a sole trader, however, can be more difficult.

 

Also, a company is a legal entity in its own right, so it does not have to be wound up in the event of the death, disability or retirement of any on the persons involved.

 

The information contained in this article is general in nature and does not take into account your personal situation or you business’ circumstances. You should consider whether the information is appropriate to your needs, and where appropriate, seek professional advice from an accountant or other qualified professional.

James Solomon is head of accounting of Xero Australia.

 

Follow StartupSmart on Facebook, Twitter, and LinkedIn.