Having an appropriate structure set up for your business is critical to both the early stages of achievement and its aptitude to develop, remain flexible, be tax effective, protect assets and minimise costs in the future.
At the beginning of your venture, choosing a business structure may be quite simple. If it’s just you, starting out alone, becoming a sole trader may be the obvious choice. It’s simple, easy to understand and an affordable way to hit the ground running. If there is more than one person, a partnership is a more probable option. Although Sole Trader and Partnership structures are associated with some risk their main advantage is that they are cheap to maintain. Nonetheless, what most people do not take into account is that as business grows, the original structure may no longer be the most efficient nor cost-effective.
Most businesses with a notably successful growth rate typically operate through a structure mix of a company and a trust. Setting up a company to act as trustee of a discretionary trust helps separate assets and liabilities, improves tax efficiency, encourages risk management for the business as well as allows for greater flexibility for change if and when it is occurs.
If the thinking at the inception of the business is to keep the structure simple and at a low cost, and the business growth is minimal it may not be optimal to change the structure. Some businesses start small and stay small. If this is the case, there is no need to re-structure.
If the business does grow and your solo operation is now being stretched at the seams and taking on a partner is inevitable, it may be time to reconsider your initial structure strategy and think into the future.
Realising when is the right time to make a change and put in place a more effective and appropriate structure may be a real challenge.
When to make the change:
The business structure you choose should be appropriate and consistent with the size and expectations of and for your business. If you operate a micro-business, keep the structure simple, if you plan on growing your business, plan for it appropriately and make sure you set your structural priorities logically so that they are optimally cost effective. The earlier you recognize the potential for your business and the need to restructure, the better. Changing your business structure can be quite costly, conversely, not optimizing your structure or making the change too late can have financial consequences. Exposing yourself to capital gains tax and stamp duty as well as the disturbance a structure change can have on the operations of your business are some of the hazards you may face.
A tell-tale indicator that it may be time for a change is a noteworthy increase in business activity, revenue and the assets of your business. Noteworthy means that if the earnings of the business outgrow the production of the business owner himself then value is beginning to accumulate.
One also needs to take into account ‘hidden’ value – such as the creation of intellectual property or new prospects that could substantially increase the value of the business before they actually tangibly occur.
If you are identifying the above mentioned characteristics in your business it may be time to re-examine if the business structure with which you started off is still appropriate.
Why change:
If things work out positively your business may become your largest asset. Said assets unfortunately come with risks, complications and tax issues. Having the right business structure will enable you to have better control over these risks.
The right business structure will help you avoid paying any more tax than is obligatory by managing the impact of tax and the timing differences between profit and the cash appearing in your business.
Also, if selling your business in the future is a possibility or if you plan on introducing partners or stakeholders
Transition management:
Do your research. Speak to your financial advisor or accountant about your business structure options. You can prepare and find out the basics here by reading about Business Structure Factors. Once you identify which structure is best, quantify the cost of any change. Make sure to do the math!
Additional resources you may find useful:
Overview of an Australian Company