If you’re starting a business, it can be tricky to get your head around the different business structures. Should you become a sole trader, or start a company? And what’s the difference between the two? To help you figure out which business structure will suit you best, we’ve put some helpful information below.
Setting up as a sole trader is one of the easiest options for someone starting out, particularly if you’re just going to be working on your own. This is a great option for someone who wants to make a living out of a hobby.
You have control over your business, you’re entitled to all profits, and there aren’t any formal or legal processes to get started.
Pros: It’s quick and easy to set up, you have full control over the business and the profits, and you can offset your losses against other income you may have.
Cons: Because you are solely responsible for the business, you’re also liable for any and all debts you might incur which could put your personal assets at risk. It can also be difficult to grow and expand this kind of business, and getting loans could be trickier.
Tax: As a sole trader, you pay tax on all of the income you earn. You can also claim business expenses to help reduce your income tax. You are responsible for all of your business debts, including tax and ACC levies, and at the end of each financial year you will need to complete a tax return.
A partnership is a good way to go if you plan to run your business with someone else.
With a partnership (which can be more than two people), all partners are jointly responsible for the business. You need to create a partnership agreement to declare how you will share profits and responsibilities.
Pros: You are able to share the responsibility of running a business, including any costs involved. Because profits are paid out to the partners who then individually pay their own taxes, it makes it clearer to see just where your business profits are going.
Cons: Because you share responsibility, you are all also liable for each other’s debts which could put personal assets at risk. A limited partnership that can reduce this risk.
Tax: Within a partnership, all income is distributed between the partners who then pay income tax on their own share. At the end of the financial year, each partner needs to complete an individual tax return.
A company is a legal entity which is separate from its owners. The company itself owns the business assets, and is responsible for any debts.
Conducting business as a company is often more difficult than other business structures because you have extra legalities and tax responsibilities to be aware of.
Pros: A company gives your business a more professional and reliable appearance and boosts your credibility. Your tax rate is also often lower than personal tax rates. Your business can also grow as much as you like and can be sold when needed as it isn’t tied to any person, it’s an entity in its own right.
Cons: It can be quite costly to register and set up a company. There are also more regulations for companies, and more complex taxation requirements. Any directors of the company also need to be aware of their responsibilities within the company for legal purposes.
Tax: A company pays tax on any profits it makes after expenses, and if the company gives out profit to its shareholders, the shareholders will need to pay income tax on the dividend.
If your company’s expenses are more than the income, it makes a loss and may not have to pay tax. You will need to file annual returns with both the Companies Office and Inland Revenue.
If you’re not sure which business structure is right for you, book in a consultation with our expert business team today!