Choosing a business structure is one of the most significant decisions that a business owner will make. The business structure you choose will go on to define your business activity in a number of important ways, including your legal liability and the way that you’re taxed. 

This quick guide will give you a better understanding of the four main types of business structures available. If you’re looking for an in-depth breakdown of each structure, check out our Comprehensive Guide to Business Structures here. 

What is a business structure?

A business structure defines the way your business is run and operated. It’s the framework you establish your business against, and it will guide the way your business grows going forward. You can change your structure later, but it’s not always simple.

Plenty of important things will depend on the business structure that you choose. This includes the way you are taxed, your legal responsibilities, the way you can distribute your income and the rules & regulations your business needs to comply with. It’s a big decision. 

There are four common types of business structures to choose from – Sole Traders, Partnerships, Companies and Trusts. 

Sole Traders 

Sole Traders are the sole proprietors of their business. As an individual, they’re legally liable for every aspect of their business. Sole traders also have their income taxed at individual rates, so this structure is only really tax-effective at lower income levels. 

This is an easy and low-cost structure, but it’s also legally risky and it makes growth difficult. It’s best used to get rolling quickly when you have a good idea, or your business is a one-man job. Media freelancers, creatives, contract tradies and other small businesses of this nature are usually Sole Traders.

Sole Traders can employ staff but it’s not recommended, as your unlimited legal liability can land you in hot water if you run foul of Fairwork. Overall this is a great structure for getting started but it’s not at all effective for larger businesses or long-term growth

Partnerships 

Partnerships are low-cost to set up and run, but they are legally risky and not ideal for growth. Like sole trading, it’s great for getting started but not for long-term growth.

In a partnership, you and 1 or more partners are jointly responsible for your business and your (unlimited) legal liabilities. You share business debts and distribute business income between yourselves. You’re then taxed as individuals on your distributed profits. It’s a good structure for pooling resources, but the potential for legal or financial conflict between partners is quite high, so you should choose your partner wisely. 

Partnerships are not taxed as separate business entities. Instead, each partner pays tax on their share of the net income of the partnership. This means that you must file both an individual and a partnership tax return each year.

Companies

Incorporating as a company establishes your business as its own legal entity. This means that if the company incurs a debt, you as an individual may not be liable. This protects your personal assets and is one of the biggest advantages of the company structure.

A company is owned by the shareholders, who appoint a director to manage operations. You can choose to be the sole shareholder or have multiple shareholders. You can also appoint yourself as a company director if you wish, but it’s common to appoint someone else to run it.

There are a lot of rules and regulations governing companies, and compliance can be a burden if you don’t have a dedicated team member or a business advisor to help you. While this admin can be costly, it does have an upside. Investors and lenders prefer to deal with companies because of the stricter regulatory environment, making this a great structure for attracting and retaining capital. 

Finally, companies are a tax-effective business structure for growth. This is because they’re taxed at the fixed corporate rate of 25% or 30%, depending on the size of the company (2021-22 rates, Australia). All of this makes a company structure a great choice for larger businesses with an eye on growth.

Trusts

Trusts have been around for a few hundred years now, but they’re still widely used. Trusts are a fantastic structure for distributing gains effectively and so are popular with family-owned businesses and family groups, especially for passing down wealth from generation to generation.

Essentially, a trust is a separate legal entity that you can run your business through. A trust is controlled by an appointed trustee, who has legal liability for the business. The trustee distributes profits to the beneficiaries of the trust (usually family members) according to the terms of the trust deed. 

This has both benefits and drawbacks. It allows you to distribute the profits from your business in a flexible way, and you can potentially save a lot on tax by transferring your gains to beneficiaries who are in a lower tax bracket, like your young adult children.

The downside is that trusts have a lot of ongoing admin costs, and their flexibility can potentially become unwieldy or not very tax-effective when used in the wrong situation. We’d recommend using a trust when you have a lot of gains you’d like to distribute, but not if you’re running a trading business that is still growing.

Finally, there’s a sub-type of trusts that are helpful to know about, called Unit Trusts.  Most trusts are Family Trusts (sometimes called Discretionary Trusts), where the amounts distributed can be changed at the trustee’s discretion. In a unit trust, however, the distributed amounts correspond to fixed units. If you have 30% of the units, you’ll receive 30% of the profits.

Comparing the 4 Business Structures

As you can tell, each of these business structures will suit different situations and different kinds of businesses. To help you compare the 4 options and figure out which one is right for you, we’ve put together a quick little table below:

This has been our quick guide to Business Structures. Hopefully, you’re now armed with a much better understanding of sole traders, partnerships, companies and trusts. If you’re looking for some more in-depth info on this topic, check out our Comprehensive Guide to Business Structures instead.

All of this can be a lot of info to take in. The good news is that you don’t have to work it out all on your own – a quick 5-minute call with one of our talented business advisors will have you sorted out in no time.  Get in touch with us today!

The information in this article is of a general nature. It does not take your specific needs or circumstances into consideration. You should look at your own financial position, objectives and requirements and seek financial advice before making any financial decisions.