Are you thinking of starting your own small business but aren’t sure which business structure to use? You’re not alone! Many new business owners feel this way and as legal experts, we’re here to help make this tough decision easier for you!
The two most popular business structures in Australia are Sole Trader and Company. Whilst both allow you to carry on a commercial enterprise, they each have different benefits and obligations. With around 350,000 new businesses registered in Australia every year, it’s vital to know whether you should register as a sole trader or a company.
Read along to compare the characteristics of sole traders and companies so you can determine which structure is the best fit for your circumstances.
Table of Contents
Sole Trader vs Company – Overview
Deciding what structure your business will use will influence many aspects of your business, and how you run it and before we dig deeper, it’s wise to have an overview.
These include:
- Your business name
- The type of bank account you use
- Your reporting requirements to the ATO or ASIC
- Your taxes
- Type of insurance
- Your privacy
- Legal liability
- How ownership of your business works
What is a Sole Trader?
A sole trader business structure is one that operates on an individual level. The majority of small business structures are set this way as it is the simplest. For example, a photographer could be a sole trader.
What is a Company?
A company is a business structure that allows you to create a legal entity separate from your business. This means the company has its own legal personality, separate from its officers and shareholders. Google is an example of a company.
What are the Major Differences between a Sole Trader and a Company?
To choose the right business structure for your business, you should know the key differences between a Sole Trader and a Company. Let’s go through the main differences together!
1. Set-Up
One of the biggest differences between a company and a sole trader structure is how they’re set up.
- Sole traders are very easy to start up compared to a company
- You only have to register a business name using a sole trader structure when you aren’t using your own name. However, with a company, you must always register your company name
- You’re required to register your company with the Australian Securities and Investments Commission (ASIC) to receive an Australian Company Number(ACN)
- As a sole trader, you’re not required to open a separate bank account for your business. However, you must open one for your company
- Sole traders aren’t required to register for an Australian Business Number(ABN),whereas companies must register for an ABN
2. Tax
- As a sole trader, you can use your personal tax file number (TFN) to file a tax return for your business income. However, your company must obtain a TFN to file its annual tax return with the Australian Taxation Office (ATO)
- Sole traders don’t have any tax benefits, whereas companies do enjoy tax benefits
- Sole traders must pay tax at a personal income tax rate, whereas if you have a company, you pay tax at the full company tax rate, which is 30% or the lower company tax rate, which is currently 25%
- Your company will always be taxed at a lower rate than the maximum bracket for individuals
3.Liability
- As a sole trader, you have unlimited personal liability. This means profits or losses from your business can’t be shared among family members or other individuals
- Companies have limited liability
- Sole traders don’t have asset protection this means if your business has a problem, you’re at risk of losing your personal assets, e.g. your home
- Your personal assets can be used to pay your business debts
- Contrastingly, due to your company being a separate legal entity, it’s legally responsible for its affairs, not its directors and managers. This makes it suitable for high-risk businesses
- This protects the owners, employees and or anyone connected to the company
4. Costs
One of the most important questions you’ll ask yourself before starting your new business is, “ How much will this cost?” Everyone’s financial situation differs, so this is important to consider when choosing your business structure. Let’s go through the costs for each structure.
- Set-up costs for a company are much higher than set-up costs for a sole trader business
- Your ongoing costs will be higher using a company structure compared to a sole trader structure
- Registration costs for companies are higher than sole proprietorships
- You must complete an annual review for your company, and this incurs a fee
5. Simplicity
- The sole trader legal structure is much simpler than a company structure
- Changing your business structure will be more complicated after you’ve established a company compared to a sole trader
6. Control
- As a sole trader, you have complete control over the management and decision-making of your business
- However, with a company, you don’t have complete control over decisions since all shareholders must agree on decisions
7. Obligations
Companies have many legal obligations and responsibilities compared to sole traders.
- Firstly, your company’s directors must declare that your company is not insolvent annually
- Your company’s directors must all have Director Identification Numbers
- You must update ASIC within 28 days if your company’s information changes significantly
- You must keep your company’s financial records
- As a company director, you must know and comply with all your legal requirements under the Corporations Act 2001
- Running a company will require you to complete more administrative tasks and follow more complex rules compared to a sole trader
- Company reporting requirements are much more complex compared to sole proprietorships
- Your company will be more heavily regulated compared to a sole trader
- Your company must comply with strict governance and reporting requirements set by the ATO and ASIC
- If your company or sole proprietorship turns over $75,000 or more per year, it must register for GST.
- If your company is a non-profit organisation turning over $150,000 per year, it’s required to register for GST
- Sole proprietorships have limited reporting requirements compared to companies
- You can hire a lawyer if you are still unsure about your legal obligations
8. Other Differences
- Due to your company being a separate legal entity, it’ll have an unlimited lifespan, whereas a sole proprietorship’s lifespan is limited to the owner’s life or to when the business is closed
- Companies must disclose their business profits, but sole traders don’t have to
- Sole traders enjoy complete privacy, unlike companies
- You’ll find raising capital as a sole trader challenging as you can’t simply issue shares as a company can
- Your business will be more expansive using a company structure
- Your company can enter into contracts on its own behalf
- Your company will have high levels of government support, such as grants and schemes
- Your company must show its legal status, for example, whether your company is a limited liability company or a proprietary limited company
- In Australia, your business can trade anywhere using a company structure
What are the advantages of changing from a sole trader to a company?
There are two primary reasons you would consider switching from a sole trader structure to a company structure.
Legal and Commercial Advantages
- Scaling your business and attracting large clients or large investors will be easier using a company structure compared to a sole proprietorship
- The company structure also offers legal protection during this scaling process. This protection isn’t provided to sole traders
Tax Advantages
- Switching to a company business structure would reduce the amount of tax your business pays. This is because sole traders can be required to pay tax at a rate of 49%. Whereas the highest current tax rate a company has to pay tax at is 30%
- Unlike sole traders, companies also benefit from development tax offsets and travel allowances
Which business structure is better?
Neither business structure is better than the other. The legal structure you choose will depend on many factors. These factors include the following:
- The size of your business
- The type of business you’re starting
- Which structure provides more flexibility to your business
- What your vision and goals are for your business in the upcoming years
Key takeaways
Through this comparison, you should have a better idea of which legal structure suits your business. Whichever structure you choose will have a large impact on how your business operates. If you’re still feeling unsure, you can complete this business structure quiz.
Which business structure is right for you?
By taking this quiz, you’ll find out which business structure is right for you.
