NEW BUSINESS: SOLE PROPRIETOR VS COMPANY VS TRUST

Starting a new business is an exciting but also daunting prospect. There are many issues to consider, one being whether to register as a sole proprietor(trading under your own name), as a company or as a trust.  

Each of these options has unique tax implications as well as a set of possible advantages and drawbacks. Your type of business and its specific circumstances should dictate your choice.  

Let’s briefly consider each of these entities.  

Sole Proprietor

A sole proprietor is the simplest form of a business entity, uncomplicated to establish and operate. Such an entity is not legally separate from its owner (aka the proprietor). The owner is responsible for paying taxes through their personal tax returns on any income the business generates.  

A common reason to trade as a sole proprietor is when your business is a one-person start-up, not guaranteed to succeed. This remains a good option if you have no or few employees and no need to buy assets like vehicles. You can safely test the waters as a sole proprietor before spending unnecessary funds and administration time on registering a company – something you might, however, do at a later stage.  

The main drawback is that trading under your own name will put personal assets in danger if liquidity problems occur. If you are married within community of property, your spouse’s assets will also be at stake. Furthermore,the owner will be limited in raising capital and expanding the business.  

Company

In some instances, it may be your best option to register a business as a company from the get-go. Good reasons include the need to protect from personal liability, expecting big profits in the short term, and if more than one owner is involved. You will also have more leverage to raise capital. Moreover, your customers might require that you trade as a company.  

Even if you started as a sole proprietor, switching to a company may eventually be better if the business proves successful and lucrative. Your accountants should advise you on the best time to do this for maximum tax benefits. Another reason to convert from a sole proprietor to a registered company is when you need to make legal obligations (e.g. bank loans) since – as explained above – your personal assets are at risk as a sole proprietor. Furthermore, it may be wise to buy assets such as vehicles directly in a company’s name  rather than your own. Otherwise, if you decide to register a company at a later stage, it will entail transferring these assets over to your company at additional costs. To use vehicles as an example – you will only be able to deduct vehicle expenses in the name of a company if a vehicle is registered to the company.  

It would be best if you involved an accountant from the initiation phase of your company – it will save you much in the long run. An accountant will advise you on whether you meet the criteria for small business corporation tax, which will significantly decrease your income tax liability. You will also need ongoing tax advice as your circumstances change and turnover increases. Furthermore, accountants will aid you in administration functions and setting up proper bookkeeping and other vital internal systems.  

Trust

In most cases, a trust would not be a viable trading option for a business with a large income. Yet, in certain instances (e.g. for investment property and portfolios), a trust may be the better choice.  

Although many types of trusts exist, the common form is an inter-vivos trust. This entity is beneficial when inheritance is in question. It protects assets from being pooled into an estate in the case of death, thereby freeing trustees from payable estate duties. Another significant benefit is that a trust allows income to be distributed to its beneficiaries, which greatly reduces the taxable income in a trust.  

The option of a trust needs to be carefully considered with input from your accountant. Proper planning and structuring of a trust are of utmost importance for maximum tax savings.  

The right answer?

As is evident from the above, choosing a type of business entity is not a straightforward matter. Our team at Huysamen Westraad Inc. will happily assist you in making the right decision. We also offer excellent accounting support as your business moves through different seasons.

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