For those who are thinking about starting a business or have started one already, choosing a tax structure is likely the last thing on their minds. But considering that most small business owners aren’t implementing the right business structure from the get-go, a lot of people end up paying too much tax. However, if it’s your first time starting a business, it’s likely you don’t know too much about the different types of business structures available – or the best tax structure for small business.
We take a look at different tax implications of each business structure and what to do if your business changes.
Best tax structure for small business
When it comes to choosing the best structure for small business, the sole trader option is a good place to start. Though the simplest and inexpensive business structure to implement, a sole trader incurs all expenses and debts of the business, and their personal assets are potentially at risk in the event of something going wrong. But as the sole trader retains complete control over the business, this option allows for more freedom of choice.
If you’re running a business with either a partner or multiple, the partnership option is a good choice for those looking to share personal responsibility. Like the sole trader option, a partnership is inexpensive to run and all expenses and debts are incurred by the responsible parties. However, as a partnership is not covered by as many legal rights a company, disagreements between partners may be harder to resolve.
Operating as a company means that the business is considered a separate entity to the parties involved. This means that money earned belongs to the company, not the people, and that personal responsibility for debts and expenses is reduced. It’s also easier for the ownership to be transferred or sold to another party. Though choosing the company option ensures more legal protection, it is a little more complex to run. The company is also responsible for the payment of tax on company profits.
Setting up a trust is one of the more expensive options, as it requires setting up a trust deed and determining the various roles required to operate a trust i.e. Principals, Trustees and Beneficiaries. There are also different types of trusts that may need to be considered. The most common type of trust is a known as a Family Discretionary Trust. This type of trust is generally used when a business is to be run by and for the benefit of family members. Other types of trust include a Fixed Unit Trust, used mainly when unrelated parties run a business together, or a Hybrid Trust which can combine the benefits of a Family Discretionary Trust and a Fixed Unit Trust. Unlike a Company structure Trusts do not pay tax however the trust beneficiaries are required to pay tax on the profits distributed to them from the trust.
Changing Business Structures
As your business grows you can change your business structure e.g. from a sole trader to a partnership, company or trust, if it is identified that your current choice of business structure no longer meets your needs.
It is generally not recommended to change your business structure too many times as this can be complicated and could incur significant costs, i.e. legal costs, capital gains tax and stamp duty. Changing business structure may also have additional tax, reporting and legal obligations.
We recommend a detailed analysis of your situation and establishing the best structure to suit your current circumstances and future requirements from the get go. Choosing a business structure is not a set-and-forget task. Once the right business structure has been chosen it then needs to be reviewed, at least annually, to ensure that the structure is still relevant for your needs given that we live in a constantly changing environment.
Not sure how to choose the best tax structure for your business? At Taggart & Partners, our business accountants can help you decide and implement the best possible structure to benefit your business. Setting up the correct business structure is paramount to minimising your business risk, protecting your business and personal assets and mitigating the tax payable of your business profits. So get in contact with our business advisory team for some business structure advice today.