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The ABC of small business structuring

09 August 2011

Presenter:

Yanese Chellapen

Sponsors Partner

Small business: definition

• COSBOA: businesses with less than 20 employees

• ATO: turnover test

• Micro sector: < $2m in turnover (2.8 million of micro businesses)

• SME sector: > $2m in turnover but less than $250m (175,000 SMEs)

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Business structuresSole trader Partnership Company Trust SMSF

Co.

Trust

SMSF

Business structure split

• Micro businesses

Australian taxation office

Business structure split

• SMEs

Australian taxation office

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Factors to considerSimplicity Set-up & administrative costs

Business venture Regulatory requirements

Funding Tax efficient

Risk min/asset protection Expansion

Exit plan/succession Confidentiality

Repatriation of funds

Business structuresSole trader

Advantages

• Simple structure

• Minimal ongoing operational costs

• Control is retained by the owner

• Can access tax losses

Disadvantages

• Unlimited liability/no asset protection

• Limited tax planning/no income splitting

• Profits subject to tax at owner’s marginal rate of tax

• Unattractive to financiers

• Impediment to succession planning

Business structuresPartnership

Advantages

• Minimal costs to set-up and operate

• Control is generally retained by owners

• Income splitting amongst partners

• Partners can access tax losses

Disadvantages

• Partners are jointly and severally liable

• Taxing events can be easily triggered

• Partners’ relationship should be properly managed

• Impediment to succession planning

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Business structuresCompany

Advantages

• Limited liability/asset protection

• Structure is more attractive to investors/funders

• Profits can be accumulated with maximum tax leakage of 30%

• Ability to frank distributions – individuals with low tax rates better off

• No tax exposure for intragroup transactions if tax consolidated

Disadvantages

• Complex structure

• High ongoing operation costs

• Lack of control due to management segregation

• Administrative /regulatory burden

• Complicated tax rules (for instance Division 7A deemed dividend rules)

• No CGT discount

• Tax losses trapped

Business structuresTrust

Advantages

• Limited liability/asset protection if corporate trustee is being used

• Structure is more attractive to investors/funders

• Access to CGT discount

• Ability to stream income

Disadvantages

• Complex structure

• Administrative/regulatory burden if offered to public

• Complicated tax rules (for instance Division 7A deemed dividend rules)

• Accumulation of profits can lead to detrimental tax leakage

• Tax losses trapped

Taxes/govt chargesIncome tax Capital gains tax

Fringe benefits tax Goods and services tax

Stamp duty (State) Payroll tax (State)

Superannuation guarantee Workcover (State)

Land tax (State)

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Income TaxIndividual Partnership Company Trust SMSF

Tax MRT MRT 30% / top up

tax for

shareholders

N/A / MRT for

beneficiaries

15%

Expenses Narrow Narrow Broad Broad Broad

Losses Flow to

individual

Flow to

partners

Quarantine Quarantine Quarantine

Losses c/f No test No test Test Test No test

CGT discount Yes Yes No Yes Yes

Income

splitting

No No No Yes No

Retention of

funds

N/A Yes Yes Limited Yes

Integrity rules No Yes Yes Yes Yes

GST

GST results by

Market segment GST ($m) Client cases

Large 540,057,370 2,571

SME 443,244,761 28,752

Micro 502,980,940 705,547

Government 42,896,943 4,440

NFP 20,654,946 9,428

Individual 758,112 2,563

Total 1,550,593,072 753,301

Australian taxation office

Funding/Government assistance• Sole trader

• Partnership

• Company

• Conducive to investment

• Flexible structure - facilitate entry and exit of shareholders

• Note tax rules can be complex depending on transactions

• Unit trust

• Similar to company in terms of attractiveness

• Flow through entity - need to flush out distribution every year or else

subject to punitive tax

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Funding/Government assistance• Grants/other government assistance

Segregation of assets

• Not recommended

Co./

Unit Trust

Trading

operation

Intellectual

property

Business

real

property

Segregation of assets• Need to quarantine risk in the trading vehicle.

Common ownership

Co./

Unit TrustUnit Trust

Trading

operationOther

assets

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Segregation of assets• Quarantining of risk

Co./

Unit Trust

Unit Trust

Trading

operation

Other

assets

Segregation of assets• Quarantining of risk

• Make sure you get the proper order

Unit Trust

Co./

Unit Trust

Other

assets

Trading

operation

Segregation of assets• Avoid tainting of other assets (e.g. land developer)

Developer Unit Trust

Development

activities Land

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Segregation of assets• Benefit from better tax treatment

SMSF

Business real

property

Co.

Trading

operation

Lease agreement

Asset protection

• Best advice for directors – be bare and stay bare

• Issues to consider:

• Corporations law duties (insolvent trading)

• Personally liable for outstanding PAYG and superannuation

contributions

• Director’s guarantees

• Any other legal obligations imposed on directors

• Strategies:

• Only 1 director per couple

• Main residence to be held by the non-business spouse

• Make use of trust to hold assets (corporate trustee recommended)

• Use of superannuation to lock away benefits

“…nothing is certain but death

and taxes”Benjamin Franklin

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Restructure

• $1 transaction does not prevent tax; hence need rollover relief

• Note bias towards corporations not vice-versa

• Still need to manage GST (if transfer of assets) & stamp duty

Co

mp

an

yIndividual

Partnership

Unit trust

*Conditions apply

Restructure• Capital raising scenario

• Bringing on board new investors

*Conditions apply

Co. Co.

Trading

operationIP

Restructure

• CGT rollover available

• No GST & stamp duty to be managed

*Conditions apply

Co. Co.

Trading

operationIP

Interposed co.

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Restructure• Consolidation/grouping

• Two or more corporate entities in your structure

• At least 1 head corporate and 100% subsidiary

• May be worthwhile considering grouping them for tax & GST purposes

• Advantages

• Only 1 income tax return required

• No tax implications for group transactions

• No GST for GST group transactions

• Note no such grouping for stamp duty

Restructure

*Conditions apply

Co. Co.

Trading

operationIP

Interposed co.

Exit/Succession plan

“Begin with the end in mind”Stephen Covey

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Exit/Succession plan

• Trade sale

• Private equity firms

• Public float

• Relatives (mainly children)

• Management buy-out

Exit/Succession plan

• Relatives

Family

Trust

Unit

Trust

Family

Trust

Co.

Exit/Succession plan

• Management buy-out

• Can be a straight sale but major impediment is financing

• Generally, this will be done through a staggered process by

implementing an employee share plan incentive

• Tax rules around management integration will need to be managed

Co./

Unit

Trust

Employee share

trust

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Exit/Succession plan

• Small business CGT concessions

• Powerful tax incentives

• Plan ahead

• Benefits

• Proceeds fully tax-free (15 year exemption);

• Limit your tax on only 25% of the capital gains (50% for

corporations);

• Proceeds partially tax-free (up to $500k)

• This is a lifetime cap;

• If < 55, need to lock into super; and/or

• Defer capital gain by buying similar asset(s)

*Conditions apply

“Due diligence starts from day

one”Dominic Carosa

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Wrap-up

Door prize draw

Feedback form

Contact details

• Yanese Chellapen

• E: ychellapen@macheladvisory.com.au

• P: 8635 1987

• W: www.macheladvisory.com.au

Liability limited by a scheme approved under Professional Standards Legislation