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There are several types of business
structures, each with its own legal, accounting
and tax requirements. The type of
business structure determines many things,
including how tax is paid and how profits are
disbursed. It is a good idea to review
the types of business structures with your
solicitor in order that you choose the
structure most beneficial to you.
The most basic structure is that of a sole
trader – someone who sets up and operates a
business in their own name. There are a
number of advantages to operating as a sole
trader. The business is inexpensive and
easy to establish. There are limited
registration requirements except for business
names and licences. Additionally, the
owner retains full control over the business
and deals directly with other parties.
The owner also receives all of the
profits. The business may be closed at
any time, or may be sold or transferred without
the need for approval from others. There
is also privacy in relation to the financial
affairs of the business.
Operating as a sole trader also has its
disadvantages. Owners are personally
liable for all obligations incurred by their
business and there is a high risk of personal
bankruptcy. All income of the business is
taxed in the hands of the owner, and taxes and
deductions will be calculated according to the
owner’s marginal tax rate. It may also be
difficult to arrange financing due to a sole
trader’s limited personal resources.
Further, in the event that the owner dies, the
business ceases.
Another type of business structure is the
partnership. A partnership is a
relationship or association between two or more
persons with a view to a profit. The
persons may be individuals or
corporations. A partnership is not
incorporated and the rights of the partnership
are governed by a partnership agreement and by
legislation. The partnership agreement
can be in writing, verbal, implied, or any
combination of these. However, it is
strongly advisable to have a written
partnership agreement in order to minimise any
dispute that may arise. Each partner
should obtain independent legal and accounting
advice before entering into a partnership
agreement. Both assets and liabilities
are shared between partners in accordance with
the partnership agreement. With
partnerships, if one or more of the partners is
found liable for doing or failing to do
something, then all of the partners in the
whole partnership are personally liable.
This is an important difference from
companies. Because partnerships are not
separate legal entities, the partnership itself
is not a taxpayer. Each partner must
include their share of the partnership income
or loss on their own personal tax return.
Another type of structure relates to
associations. Unincorporated associations
are traditionally clubs formed to operate a
non-profit business. They are not
partnerships because there is no view to making
a profit. Unincorporated associations are
not a separate legal entity. Members are
liable for the debts or wrongful actions of the
association but their liability is usually
limited to the amount of their subscription
unless there is a contrary intention specified
in the rules of the association.
Sometimes associations may choose to
incorporate in order to avoid the personal
liability aspects of being
unincorporated. An incorporated
association has the same legal rights and
powers of a natural person and hold property
and can sue and be sued.
Most businesses choose to incorporate.
Incorporation offers many benefits because a
corporation is a separate legal entity or
person. It can enter into agreements in
its own name. Companies also have
perpetual succession and will continue to exist
regardless of the death or changing
circumstances of its shareholders and
directors. Because a company is an
independent legal entity, the debts of a
company are its own. In a company limited
by shares, the liability of each member is
limited to any amount owing on the price of the
shares. Tax rates for companies are lower
than some personal income tax rates.
Incorporation also has its
disadvantages. Generally it is more
expensive to establish a company than it is to
establish a partnership or to be a sole
trader. There are compulsory reporting
and auditing procedures under companies
legislation, and the fees associated with these
requirements may be quite high. Directors
and other company officers are faced with
ever-increasing obligations and duties.
For instance, if the company becomes unable to
pay debts as and when they fall due it may be
insolvent and the directors may be liable for
debts incurred by the company during this
time. Further, many lenders and lessors
often insist on personal guarantees from
directors when a company borrows money or
leases property, and this substantially erodes
the benefits of incorporation.
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