As business trends and tax laws change so too do suitable business structures; a topic we are often asked about as accountants and business advisors. And with an election looming as well as increased health and safety and environmental regulation, these questions will continue to be asked.
Traditional sole traders and simple partnerships have given way to companies, family trusts and equity partnerships. So when clients ask which one is best, the answer is that there is no one-size-fits-all solution as every financial situation is different. Indeed, certain structures become “trendy” and a client wants a family trust because the neighbour has one. That is the wrong reason to approach a structure change.
Not even a new business is guaranteed to get the perfect structure capable of standing the test of time, as there is no way to foretell what future legislation (tax, gifting, land tax, capital gains etc) will look like. I generally answer my clients’ questions by discussing the following topics in an effort to tailor a structure for their needs.
Keep it simpleAny structure needs to be understood by you. It easily gets confusing if the structure is too complicated. And such structures often carry higher administration costs which become troublesome when a client has created this structure on the advice of professionals. Sole traders and partnerships fall into this category, but they lack the flexibility of other structures when it comes to tax planning, succession planning and estate planning.
FlexibilityA structure is flexible if it assists you with tax, succession or estate planning. The ability to spread income around a number of taxpayers leads to a lower overall tax liability. Partnerships, companies and trusts (or a combination of these) are useful for this. However, a partnership is not as effective as a company or trust when it comes to succession or estate planning because, on the ceasing of the partnership, a ‘sale’ occurs and taxable income is created generally on the disposal of assets or livestock for more than their tax values. Recent changes to Partnership legislation takes some of the sting out of this situation but care needs to be taken to take full advantage of the new concessions. This income can be deferred by the use of a company or trust.
Succession PlanningA company or trust can assist in the transfer of assets to future generations often without triggering taxable income. A company, for example, uses share transfers from one shareholder (e.g. Father) to another shareholder (e.g. Son) with limited impact for the accounting of the company because the share transfers are between two parties, neither of them the company i.e. this happens ‘outside the books’. Certain criteria still need to be maintained to stay within certain areas of tax law but these are generally easily managed by a carefully managed sell down of shares. This structure is also useful for staff incentive schemes where an employee receives a share in the business as a bonus.
Companies and trusts are generally considered useful structures that provide more asset protection than the simpler structures. However, the question of “who are you protecting these assets from?” needs to be asked. If the answer is the bank, then you will generally be unable to contract out of any guarantees to the bank. If the answer is your spouse/partner, then you could be breaching personal property legislation. You can be protected against some trade creditors by using a company as long as you haven’t signed any personal guarantees. Trusts can provide asset protection for future generations.
It is evident that there are a number of structures or combinations of structures that could be the solution for you. Only by answering some simple questions as above can your suitable solution be created. However, please be aware that there is only so much detail that can be covered within the limits of this column. So, if any aspect of the topic creates questions please don’t hesitate to contact your Chartered Accountant or Solicitor.