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If you are thinking of starting a business, you will need to choose which business structure is best for you. Each of these options come with their own legal and financial implications. The most common business structures include sole trader, partnership (general or limited) and company. However, other structures include: 

  • unlimited companies;
  • co-operative companies; 
  • trusts;
  • charitable trusts;
  • incorporated societies; 
  • industrial and provident societies; 
  • friendly societies;
  • building societies; and 
  • credit unions.

This article outlines the pros and cons of setting up your business as a sole trader, partnership or company, to help you decide on the most cost-effective solution for your business.   

Choosing a Sole Trader Business Structure

As a sole trader, you own and control your business. Although you can employ staff to help you run your operations, ultimately, you are responsible for the day-to-day decision making. You do not: 

  • share the profits or losses from your business with others as partners do; or 
  • register with specific regulatory authorities as companies do. 

However, you will still enjoy benefits like: 

This is the easiest and cheapest structure out of the three, which appeals to many small business owners who run a trade, consultancy business or turn their passion into a financially viable operation.

The main benefits of operating as a sole trader are that:

  • the start-up costs are low;
  • you can offset your losses against other income sources;
  • you may be entitled to government benefits and other programmes to help you get your business off the ground; and
  • you do not have to share the control or profits from your business.  

However, being a sole trader also has some drawbacks, because: 

  • you may be putting your personal assets at risk (unless you take some steps to protect them);
  • it is harder to get external funding for your business;
  • there is no one else to share ideas or decisions with; and
  • it can be more challenging to grow or sell your business.

Choosing a Partnership Business Structure

When you structure your business as a partnership, you share the ownership and control of your business with at least one other person, depending on the type of partnership. This means that:

  • general partners will share ownership and control in the partnership, unless they are a sleeping partner; and
  • limited partners will share ownership but do not get involved in running the business.

Partnerships are common in industries like farming, accountancy and law. This structure appeals to these types of business because:

  • you can share the responsibilities and costs of owning and running the business with your partners;
  • each partner can focus on their area of expertise; and
  • each partner can offset the parternship’s losses against their personal income.

However, entering into a partnership can also have some disadvantages, depending on the rules set out in your partnership agreement. 

A partnership agreement is a document that governs the relationship between you and your partners.

For example, it may: 

  • put your personal assets at risk (unless you take some steps to protect them);
  • cause you to be responsible for your partners’ business debts; and
  • be more complicated to sell your business. 

As with a sole trader, you can employ staff, as long as you register with Inland Revenue (IRD) as an employer. Importantly, each partner is taxed individually on their share of the business profits.

Choosing a Company Business Structure

Unlike sole trader and partnership structures, companies and their owners (shareholders and directors) are separate legal entities. This means that shareholders are only responsible for the company’s debts up to the value of their investment in the company. 

In most instances, companies are the most complicated and expensive structure to set up. This is because you have to register and maintain records with both the New Zealand Companies Office and the IRD. Companies are also subject to stricter tax and legal regulations.

Setting up your business as a company will be beneficial as:

  • your personal assets are not at risk because, as a shareholder, you are only responsible for the company’s debts to the extent of the value of your shares;
  • you are likely to have a lower tax expense at the end of the year, because companies pay a flat-rate tax of 28% (as opposed to the individual gradual rate paid by sole traders and partnerships);
  • it is easier to get external funding for your business in the form of loans or investments; and
  • there are fewer barriers to growing and selling your business.

However, setting up a company also has its drawbacks, given that:

  • you have to comply with stricter and more expensive regulations than sole traders and partnerships;
  • you may require a lot more funding to grow a company than you would need with other structures; and
  • as a director of a company, you may encounter some risks and liabilities if you do not follow your duties.

Which Business Structure is Best for You?

Considerations

Sole Trader  

Partnership 

Company

Complexity to set up and run.

Easy.

Dependant on the setup.

Complex.

Cost to set up.

Low.

Dependant on the setup, as you might need to engage a lawyer.

Generally high. Some of these costs include reserving the name and registering your company.

Risk to personal assets.

Typically high but you can mitigate the risk.

Usually high but you can mitigate the risk.

Generally low, as your liability is capped to the value of your shares.

Managing your business.

Hard, depending on the size and complexity of the business.

Typically easier as you can share responsibilities with your partners.

Generally easier as it is this is the responsibility of directors, as opposed to shareholders.

Tax rates.

High. Individual tax rates are incremental and capped at 33%.

High. Individual tax rates are incremental and capped at 33%.

Low. Companies enjoy a flat tax rate of 28%.

Selling your business or getting investors.

Generally complex, as it would require changing your business structure. 

Usually complex, as it involves ending the partnership and starting a new one with IRD.

Typically easy, as it only involves changing the shareholders or the number of shares held.

In some instances, it will be easy to choose which business structure will best suit your needs. However, in other cases, it may be worthwhile seeking the advice of a business lawyer. This can save you time and money later down the track.

For example, you may want to set up a farming business as a general partnership. Creating a partnership agreement that lays out the rules for all partners can: 

  • avoid dispute costs in the future; or 
  • protect you from having to front up to your partners’ business debts. 

Alternatively, suppose you are a plumber trying to decide between a sole trader and company structure. Here, a lawyer can make your choice easier by helping you understand the legal and tax implications of each structure. 

Key Takeaways

Setting up a business is generally straightforward and you can do a lot of it yourself, depending on the structure you choose. Before you set up your business, you should consider whether you want to:

  • share the responsibilities of owning and managing the business;
  • protect your personal assets; 
  • split your income or losses from the business;
  • grow or sell your business in the future; and
  • seek loans or capital from investors to grow your business.

This will help you decide whether to set up your business as a sole trader, partnership or company. If you need help deciding on your business structure or getting yourself set up, contact LegalVision’s business lawyers on 0800 005 570 or fill out the form on this page.

FAQs

What are the main types of business structures?

Although there are many different types of business structures, the most common include being a sole trader, partnership or company.

What is the best type of business structure?

The best business structure is the one that best suits your individual needs. If you want to operate a small business with low set-up costs and fewer reporting requirements, a sole trader structure may be ideal. Alternatively, you may benefit from a partnership structure if you want to share the responsibilities, profits and losses of your business. Finally, a company may be best if you want to protect your personal assets and limit your liability.

Should I start my business as a sole trader or a company?

Whether a sole trader or company structure is best for you will depend on your circumstances and business plans. If you want a business that is easy to set up and run, a sole trader structure will be ideal. However, sole traders risk their personal assets because they are personally liable for their losses. In contrast, a company is more complex to establish and operate. Nonetheless, it allows you to limit your liability for losses and access a flat tax rate.

Should I start my business as a partnership or a company?

Whether you should set up a partnership or a company will depend primarily on your operations and the way you want to distribute your profits and losses. As a partnership, you can share responsibility for the business among other people. This allows you to share profits and losses among all the partners. However, it can be complex to set up and sell your business. In contrast, a company is a unique legal entity with a capped liability. This also makes it easy to sell your company.

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