Are you considering moving from a sole trader to a company structure?
There are so many great reasons to move your business structure from a sole trader to a separate legal entity such as a company structure (Pty Ltd) from a legal, financial, tax and general perspective.
From a legal perspective the main reason to move from sole trader to a company is to separate you as the business owner from the business itself. If you’re a sole trader, you are the business, so if the business was to be sued at any stage, it would be Them v You. If the business is a hobby with no legal risk (or extremely low), then it might be okay. But for most businesses, they’re not a hobby and they do have some element of risk.
Read on to find out more about the benefits of moving your business structure from a sole trader to a company structure. We list our top 3 benefits in choosing a company structure.
Why should you consider a company structure?
The question you need to be asking yourself is, do you want to get sued personally? If that happens, then all your personal assets could be “up for grabs”. Personal possessions, motor vehicles, assets, property etc.
However, if you set up a company (i.e. Pty Ltd), then you as the owner are generally only liable for the unpaid value of your shares.
You still have fiduciary duties as a director of that Company which you need to comply with at all times e.g. your duty to trade solvent and to act in the best interests of the company at all times, etc. In general though, the costs of setting up and maintaining a company is vastly outweighed by the legal protection a company entity provides.
Your accountant can provide you with financial/tax advice about the benefits of making the move. They may advise you “roll over” to a Pty Ltd on 30 June of a given year. That is, the sole trader finishes on 30 June and the company begins on 1 July. There will normally be a slight overlap between the two, but that is minimised when organised at the end of a financial year.
If you are a business that provides professional service to other businesses you should consider incorporating as a means of protection.
There are many issues to consider, such as the assets of the business owner(s). Each business should seek specialist legal advice and do it swiftly.
To not obtain legal advice at the outset may potentially put the business at risk, leaving its assets exposed and of course the business itself. You’re effectively playing “Russian Roulette” with the business up to that point where you change the structure to reduce the legal risk.
Your business may have wheels in motion – it may have accumulated various intellectual property, trade marks, domain names, business names, which should be transferred to the correct entity as soon as possible.
Any contracts with suppliers or employees should also be transferred to the new entity sooner rather than later. You should speak to your accountant about setting up a new Xero account separate to your sole trader account. It’s an involved process but if approached in a methodical manner and with the right financial and legal advice, it should not be a daunting task. And once it’s done, that’s it.
There are various costs when setting up a new company but these costs aren’t as expensive as they used to be. People are often hesitant to set up a company due to the perceived high cost, but it doesn’t have to be super expensive. That’s a thing of the past.
3 reasons to incorporate:
1. Separate legal entity = significantly reduced personal risk
It’s important to separate the business owner from the business in order to minimise their risk. Once incorporated the business is a separate legal entity to the owner, unlike when the business is in the category of sole trader.
As mentioned earlier there are still director’s obligations or fiduciary duties which apply such as tax, GST and PAYG. However if the company is ‘wound up’ the business owner’s personal assets are at less risk. This cannot be said in the case of a sole trader where, if sued, the business owner’s personal assets can come under attack – even forcing a bankruptcy.
2. Availability of credit
Another reason to incorporate is because banks prefer to loan credit to companies. Many sole traders can’t secure even a small increase on their credit cards. That seems to change once they incorporate and apply for a corporate credit card where the bank will happily provide them with a $20,000 credit card.
For some reason, the bank thinks that once you’ve incorporated, then you’re a serious business. It’s bizarre, but that’s just how it is in Australia. Obtaining bank loans for the business also appears to be easier when you’re a company.
You will be perceived to be more serious and are likely to land bigger clients.
Additionally, once you incorporate other businesses will start to take your business more seriously. Rightly or wrongly the perception is that you are more established and more committed to the business than if you were still a sole trader. Some businesses won’t even do business sole traders, they’ll just award the contract to a company over a sole trader.
3. The business is more attractive to potential investors
It’s also easier to obtain investment when there’s a company set up ready for shares to be issued to the investor.
It can be easier to sell a business, especially if the new owner doesn’t want the cost of transferring contracts, insurances , trade marks, subscriptions and the like over to a company. That is, they can simply purchase the shares in the company.
Transitioning your business
As you can see, there’s many legal and non-legal benefits to transitioning from sole trader (or even partnership) to a separate legal entity. Once you’ve considered the legal, financial and other benefits, it really is a “no brainer”.
If you know that you’re going to incorporate in the near future, why not do it now? Protect your business and take advantage of all the benefits that incorporating can provide.
Ian Aldridge is the Founder and Principal Lawyer Director at Progressive Legal. He has over 15 years experience in advising businesses in Australia and the UK. After practising in commercial litigation for major Australian and International Law Firms, he decided to set up a “NewLaw” Law Firm in Australia and assist growing Australian businesses, doing law differently. He has a double degree in Law (Hons) and Economics (with a marketing major). He was admitted to the Supreme Court of NSW in 2005.