When we talk about various types of business in Australia, we know that several decisions will affect the type of business you choose. But why do you think it is crucial to review the details of the type of business before proceeding? The stage of your business, rate of growth and whether you employ staff will be defining factors in determining the business structure you choose.
Whether you’re a start-up founder or an established business owner, understanding the basic principles of a company vs sole trader is essential for choosing the right business structure that suits your needs especially if you’re seeking financial services in Sydney to support your operations.
So, let’s explore the key differences between sole traders and companies in Australia, along with the benefits and considerations of each structure.
An Overview of Sole Trader and Company
When preparing a structure for your business for tax purposes, the two primary options in Australia are sole proprietor and limited company(Pty Ltd). As a sole trader, you operate your business individually without having any legal distinction between the owner and the business. A company on the other hand is a separate legal entity distinct from its owners. Each business structure has its advantages and disadvantages, particularly concerning tax implications and liability. The most common question remains the same for every business owner:
Do you pay more tax as a sole trader or a company?
Sole trader business income tax is calculated under the individual tax rate system whereby the tax rate applied is the same as the tax rate applied to individuals who work as employees. The tax rate is not fixed and increases at various tier levels of assessable income. Companies, however, are taxed at fixed company tax rates (currently 25% for companies under the aggregated turnover threshold of $50m). The answer to who pays more tax is difficult to answer and it depends on the amount of turnover the business produces and many other facets that need to be taken into consideration.
General Comparison of Sole Trader vs. Company Considerations
Sole Trader
● Tax-free Threshold
a. Individuals have a tax-free threshold of $18,200 in the 2023–2024 financial year.
b. Taxation for sole trader businesses aligns with personal income.
● Tax Rates
Taxation for sole traders follows individual income tax rates.
● Lodging Tax Returns
a. Sole traders must lodge an individual tax return annually.
Company
● Tax-free Threshold
a. Companies do not benefit from a tax-free threshold; tax applies to all earned income.
● Tax Rates
a. Companies pay a fixed company tax rate. The current tax rate as of 2024 is 25% for companies under the aggregated turnover threshold of $50m
● Lodging Tax Returns
a. Companies must submit an annual company tax return.
b. Returns include the company’s income, deductions, and income tax liability.
Pros and Cons of Company Vs Sole Trader
Whether you operate your business as a Sole Trader or a Company, each structure has its pros and cons. Below are the points highlighted to help you evaluate each structure
Pros of being a sole trader
1. Ease of Operation
Sole trader businesses are easy to set up and cost-effective. Tax returns can be self-assessed and filed, or a registered accountant can complete your tax return for a lower fee compared to company tax returns. Overall, bookkeeping and accounting in sole trader businesses are easier to maintain.
2. Control of your business
As a sole trader, you have full control over your business, however, this also means you are personally liable and responsible for all aspects of running your business.
Cons of being a sole trader
1. Taxation
Sole traders who earn a substantial income will typically pay higher taxes in the long run. In contrast, limited companies benefit from a fixed company tax rate which is usually lower than individual tax rates.
2. Unlimited Liability
Sole traders and their businesses are legally indistinguishable. Thus, debt payments affect both personal and business assets, with government entities possessing the right to seize personal assets to clear business debts if required
Pros of operating as a limited company
1. Limited Liability
Operating as a limited company provides limited liability to its directors and shareholders. This means in the event the company becomes insolvent, depending on the type of debt and in the absence of personal guarantees, your personal assets may be safeguarded. This area can be quite complicated and depending on the circumstances protection of personal assets is never guaranteed.
2. Tax Incentives
This approach reduces the national insurance contributions required, with dividend tax payable solely on company income instead of income tax on all earnings.
Cons of operating as a limited company
1. Increased Legal Obligations
Limited companies are bound to follow specific legal obligations outlined by the finance ministry under limited company regulations.
2. Fees and Multiple Filings
Limited companies pay a certain amount while registering their business name and filing various tax filings, starting with different years of operations. The other aspects that require monetary aid for your company include annual accounts and company returns that require meticulous recording and filing processes.
The Bottom Line
The choice between limited company vs sole trader tax comparison in Australia depends on various factors, including business goals, financial circumstances, and risk tolerance.
