Unlike a sole trader who essentially is the business, a company is a separate legal entity with directors who run the business and shareholders who own it. When business owners are interested in restructuring their business operations, the most commonly considered option is a company. This is usually because they believe they understand the way this structure works. Business owners are generally aware that a company owns the business assets and provides protection for their personal assets against business risk. However, there is far more to consider when picking a business structure than asset protection. A brief summary of the Benefits and issues of using a company is outlined below.
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Business owners who are considering operating through a company structure must give due consideration to Division 7A. Division 7A essentially seeks to prevent directors and shareholders of private companies from taking the company’s profits for personal use. Individuals or entities that take ‘Drawings’ from a private company have until the lodgement date of the company’s income tax return to either repay the funds in full or enter into a suitable loan agreement with the company. Failure to do so will result in the amounts being treated as an unfranked dividend which will need to be included in the shareholder’s income tax return for the year. As you can imagine if the sum taken from the company is significant, this can result is a substantial tax bill.
Business owners looking to shift their business operations from a sole trader structure into a private company can experience a number of benefits. However, there are also a number of key differences and potential issues that must be understood and carefully managed. We strongly recommend anyone interested in setting up a company seek professional advice before doing so.
For more information about other structuring options please refer to the other articles in this series, or contact us if you’re looking for more personalised advice.
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