Want to read something boring? No? I think you better think again. What lies below is compulsory reading for anyone who does not want to go broke or be bounced by some government body designed to seek and destroy dodgy or amateur businesses.
Getting your structure right will ensure you don’t end up on the wrong side of the law and the all-important bottom line.
The starting point
Get accounting and/or legal advice especially if you are planning to enter a partnership or set up a company.
Choose your business structure with an accountant as it affects:
o The tax you’ll pay
o Your personal legal liability
o The availability of capital to establish and operate your business.
Types of structures
1. Sole trader – a one man band
My dad owned a business that supplied some of Sydney’s best restaurants with fruit and vegetables. While at University, I helped with deliveries. Dad ran the business on his own but he liked it that way. He’d get his brothers or a close mate to help him when things got hectic.
His accountant did his tax returns but little else — no advice, no business planning. He claimed business expenses but did not take advantage of splitting his income with mum, who did take orders and do other work in the business, so he could have taken advantage of her tax-free threshold.
Dad was a classic case of someone who worked hard IN his business but not ON his business.
Most businesses are sole traders. It can be the right choice when starting out. You may then be single, know the business is going to run on lean profits for a few years or prefer to keep things simple.
As you grow however, talk to your accountant about restructuring. A company may be, by that time, more suitable.
Advantages of a sole trader:
o Simple and cheap to set up
o No separate tax return required
o No registration if your name used
o Full control over business
o Owner takes all the profits
o Easy to wind up.
o Personally liable for all debts
o May be hard to sell if owner dies
o Hard to get time off for holidays.
2. Partnership – be careful!
Partnerships in business, I guess, like in normal life, are fraught with danger. In the top ten reasons for business failure, selecting partners for the wrong reasons is right up there.
A friend recently encountered a partnership story, straight out of the X Files, underlining how crazy business can get when desperate people are chasing money.
This friend was building her home and looking around for a kitchen company. A worker on site approached her (let’s call him Chris) and said his mate (Joe) was a highly skilled joiner.
They were going into partnership building kitchens.
Chris told her they were the best of friends and was excited by this business venture. He would do all the organisational work while finishing his apprenticeship and Jo would be the cabinetmaker. Their quote was good and Jo held a great reputation for his craftsmanship.
They started the kitchen. For the first few weeks they laughed as they worked. It was a marriage made in heaven. Then came the problems.
Chris was slow and inexperienced and Joe began to feel he was doing all the work. Communication problems started and the kitchen would be left for days with no work done.
My friend called Chris to see what was happening and spoke to his wife, who expressed disappointment about Joe’s casual attitude to business. The partnership was crumbling.
Joe turned up to finish off.
In the meantime, Chris called my friend to say he was working elsewhere but asked her a favour. He wanted a phone call before she made the last payment so she could write two cheques. My friend at first agreed but sensed problems. Joe did most of the work and was there to the end. Was she going to play mediator when a fight broke out about money on her property?
Chris had dropped out potentially jeopardising the whole contract. He now wanted my friend to play debt collector.
Joe turned up for the final payment. She told him about Chris’ request and he said he’d sort things out.
Joe had always been the recipient of other progress payments. My friend paid him in full and got a receipt.
Chris’s wife then started to call my friend and sent invoices demanding money and insulting letters upsetting my friend, who sought legal advice.
As you can see, this is crazy stuff and an innocent consumer has been dragged into a mess because two partners did not select each other for the right reasons.
To make matters worse, on setting up, they did not put in place an agreement on how to handle disputes, payments and bust ups. It was amateur hour from the outset and everyone connected suffered.
Solicitor, Nick Prassas of Comino Prassas, says the consumer in this case acted in accordance with her contractual agreement. “The dispute between the partners is a matter to be sorted out between them. The terms of the agreement should be the means for settling it,” he says.
This is commonsense but when people and money get mixed up with a bad partnership arrangement, no-one is safe. So get a partnership agreement drawn up, no matter how good a friend you have.
Advantages of a partnership:
o Easy and cheap to set up but a partnership agreement is needed
o Family partnerships have tax advantages eg income splitting
o Opportunity to take time off
o Combined experience and skills.
o Each personally responsible for debts incurred by any other partners
o Potential for clashes, disputes and relationship problems
o One can dissolve the partnership which could ruin the business.
3. Company – for the organised only!
You can buy a shelf company, which decreases the complexity of setting up. Ask you accountant about this. Inform the Australian Securities and Investments Commission (ASIC) you are a director or you’ll be fined. Directors have serious responsibilities and obligations, which are set out in the Corporations Law.
You should contact the Australian Institute of Company Directors as they have vital information and courses that will help you run your company properly.
If, as a director, you have been careless or dishonest with the company’s assets, which causes the company to owe money to others, or do not act in the interests of the company, you can be personally sued or prosecuted, sent to prison or face heavy fines. An undischarged bankrupt cannot be a director.
A director cannot say they:
o Didn’t have time to understand the details of the business
o Weren’t responsible for a part of it
o Let management solve the problem.
Like all professionals, directors must take care in carrying out their professional duties. Non-executive directors have an equally important role.
Non-executive directors must:
o Be informed about the business
o Monitor its activities
o Get independent advice if needed.
You are responsible because, while the company is a ‘person’ in its own right, it only acts through decisions and actions of its directors.
How must you act?
o With honesty
o With due care, skill and diligence.
And your responsibilities?
o Know what the company is doing
o Know all financial commitments
o Get professional advice if needed
o Ask management about business
o Be involved in directors’ meetings
o Never rubber stamp decisions
o Disclose any conflicting interest
o Understand the Corporations Law
o Act in accordance with the spirit of the Trade Practices Act
o Ensure the company has necessary insurance to protect office holders, employees, customers and clients.
When will you be liable?
Your legal duty to ensure the health, safety and welfare of all your employees means the workplace must be operated without putting anyone at risk of injury or disease. You can be held personally liable if you breach this.
If proper accounts are not kept and the company is wound up, its affairs are investigated, stops carrying on business or is unable to pay debts, you can be personally liable.
You are at risk if you act irresponsibly or fail to carry out obligations you have accepted as a director. The Trade Practices Act makes it easier to sue directors personally and you can be liable up to the full extent of your personal assets.
Keep records and books
You have a duty to keep these records at your registered office:
o Minutes of any general meetings
o Minutes of meetings of directors
o Accounting/other records
o Members register (shareholders)
o Option holders (if you have them)
o Debenture holders
o Register of charges created by the company over company property
o Hold proper GST records.
Duty to report changes
To keep the database of companies accurate, you must inform ASIC if the company changes:
o Registered office or business hours
o The company name
o Directors/secretary or their address
o Allots new shares or divides or converts shares to a different class
o Creates a charge on company assets or assigns or varies a charge on company property
Each change has a form which must be lodged with ASIC.
Keep financial information
Generally small companies don’t have to lodge audited financial statements with ASIC. The Corporations Law defines a small propriety company as having any two of the following:
o Less than $10m turnover in the financial year
o Less than $5m assets at end of the financial year
o Less than 50 workers at end F/Y.
Any companies controlled by the small company must be included.
You must still keep records so accounts can be prepared and audited. There must be a systematic record of the financial transactions — not simply a collection of receipts, invoices, bank statements and cheque butts. If a computerised accounting system is used, information stored electronically must relate to records.
Advantages of a company:
o Owners not responsible for debts of company unless personal guarantees
o Greater access to finance
o Can be owned and operated by one shareholder and director
o Income splitting opportunities
o Superannuation opportunities.
o High establishment accounting costs
o Directors subject to legal responsibilities
o Higher annual accounting costs
o Compliance costs in terms of money and time are higher.
What are your duties?
o Consider the welfare of the company, its shareholders and creditors even before your own
o Never use information gained as a director to your own personal advantage. An example of insider trading is when a director of a company buys or sells shares before the release of a company announcement. The penalty for insider trading is five years’ gaol, a $200,000 fine or both
o If the company cannot pay a debt, you must provide a report to an externally appointed administrator within seven to 14 days.
As soon as you become a company, you MUST put in place various things.
o Put the company name on invoices, receipts, stationery, etc.
o Open a bank account in the company name. A bank will ask for a copy of the Memorandum and Articles of Association. Ask your accountant for these
o Bank all company monies into this account
o Where possible, pay all company expenses from this account
o Separate private from company expenses
o Keep company records (cash books, invoices and receipts received, petty cash vouchers, letters, sales invoices etc) for five years. The Australian Tax Office does audits to see if business records are adequately kept and that deductions claimed are business related and allowable
o Register as a group employer. Ask your accountant to help here
o Consider FBT and GST liabilities
o If your business is ever sold, Capital Gains Tax could apply
o Take out Workers Compensation for employees
o Any lease in your name must be assigned to the company.
A director may be liable to pay compensation to a company if they were a director when their company incurred debt while insolvent or went into insolvency by incurring the debt. A company may be insolvent if it is unable to pay debts. Penalties for insolvent trading are severe.
Trusts and your business
Seek advice from your accountant about which form of business structure best suits your business — sole trader, partnership, company, or trust.
You may be at a stage of business growth where it’s time to form a company. Seek help from an accountant specialising in small business about the advantages and disadvantages of incorporating.
Recent changes to the corporations law have lightened the load for small businesses when it comes to filing accounts with ASIC.