Changing your business structure from a sole trader to a company is a fairly common occurence.
Most newbie business owners do not wish to incur the higher costs of setting up a company structure when they are initially dipping their toes to see if their new business venture will work out. Subsequently, when their businesses takes off, business owners will often look into legal matters including succession planning, limitation of personal liabilities, business expansion by seeking investment funding, etc.
Here are some of the matters which you should consider when contemplating this restructure.
Difference between Sole Trader & Company
Sole traders and companies have different legal, tax and reporting obligations. It is important that you are clear on the differences before you proceed with your planned business restructure.
Business Victoria provides good resources and detailed information on the following:
Advantage of Rolling Over from Sole Trader to Company Structure
- Reduction in risk – Companies operate with limited liability compared to sole traders who are personally liable.
- Reduction in taxes – Company profits are subject to flat rate of taxes at 27.5% (base rate entity) or 30%. Profits made by sole traders are subject to taxes at their personal marginal tax rates. If a sole trader has employment income or other sources of income, this may mean that the business profits will be taxed at 32.5%, 37% or 45%, which are higher than company tax rates.
- Retention of profits – Companies can retain profits to fund future growth. These retained profits can also be used to issue franked dividends with franking credits later on. These options are not available to a sole trader, which limits tax planning possibilities.
Small Business Restructure Rollover
Previously, for a small business going through a restructure (eg. from a sole trader to a company), the transfer of active assets that are CGT assets, trading stock, revenue assets or depreciating assets, would trigger a capital gain. This often resulted in capital gains taxes for the business owner, which made business restructures costly.
Since 1 July 2016, the small business restructure rollover has been available for eligible small businesses. This rollover allows small businesses to transfer active assets from one entity (the transferor) to one or more other entities (transferees) without incurring an income tax liability.
This rollover applies to the transfer of active assets that are capital gains tax (CGT) assets, trading stock, revenue assets or depreciating assets.
You can access this concession if your aggregated turnover is less than $10 million (ie. classified as small business).
To be eligible for this rollover, the transaction must not result in a change to the ultimate economic ownership of transferred assets. For example, the sole shareholder of the new company structure must be the sole trader. It is not possible to have 2 shareholders in this instance, otherwise, the company loses its eligibility for the rollover.
The sole trader transfers the business assets (including any business liabilities) to the company in exchange for ordinary shares in the company. After the transaction is complete, the sole trader must own 100% of the ordinary shares in the company. In so doing, under the provisions of the small business restructure rollover, the capital gain on sale of the sole trader business to the company is deferred.
Disclaimer: This blog post has been simplified to cover some key points of restructuring from sole trader to company structure. This should not be construed as advice from Glint Accountants. There are many other factors to be considered and each business situation is unique. Therefore, we encourage readers of this blog post to contact Glint Accountants for assistance with their specific circumstances.
Geraldine Lee is a Fellow of CPA Australia and successful business owner with experience with business restructures. Contact us at Glint Accountants for assistance if you would like to restructure from sole trader to company structure. We can assist with structure set-up, new Xero bookkeeping file set-up, cancellation of sole trader ABN, etc.