Do I need to start a company?
What business structure should I choose?
You have decided you want to work for yourself. Now you need to decide what company structure you are going to use. Some of the common ways to structure your business are:
- To work as a sole trader
- As a limited liability company
- As a partnership with others
Each structure can affect how your business grows. If you decide at some point to sell your business, the structure can affect the sale process. You will also have different legal and financial responsibilities for each structure. Regardless of which structure you choose, you have to pay taxes.
How do I set up a company?
Many people who start a business are usually advised to set up a company. An LLC – Limited Liability Company, is a legal entity registered with the Companies Office. An LLC requires at least one Director and Shareholder and has its own tax and compliance regulations.
A company can be more complicated to set up, as the following needs completing:
- Checking the availability of the company name; reserving and then registering the name with the Companies Office.
- Choosing a Director(s) and recording their information with the Companies Office.
- Choosing a Shareholder(s) and recording their information with the Companies Office.
- Determining the number of shares and share allocation to Shareholders, and recording this information with the Companies Office.
Once you have set up the company, there are ongoing obligations, such as:
- Maintaining a current company share register.
- Managing company records and tax obligations.
- Managing company ACC levies and payments.
- Filing annual returns with the Companies Office.
- Managing additional tax responsibilities as an individual i.e. paying salaries, paying personal income tax and other obligations (KiwiSaver, ACC, student loans, etc.), filing end-of-year personal income tax returns.
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Why do business owners set up companies?
Depending on how you plan to grow your business, and if you want to sell it later down the track, then setting up a company could be the better option.
Structuring a business as a company provides an easier pathway for growth. You can invite partners/shareholders to join the company, and investors are more likely to provide capital. Similarly, if you decide to sell the business once it has value, the sale process is simpler because you are selling a separate legal entity.
Other reasons to set up a company include:
- Setting up a complex business structure with multiple Directors and Shareholders.
- Hiring permanent employees and using payroll services (easier to manage through a company than as an individual).
- Managing complex goods inventories.
- Organising lines of credit to defer payment of goods/services.
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And I reduce my risk of liability, right?
An LLC can reduce your liability as a business owner as it is the company that is liable for debts incurred. However, you may be starting as a small business and only have yourself to appoint as the Director. As the Director of a small business, you could still be at risk if:
- You have created a substantial risk of serious loss to your company’s creditors by agreeing to an obligation the company cannot meet e.g. your company continues to trade while it is insolvent.
- You have used the company for criminal activities e.g. tax evasion.
- You have provided personal guarantees e.g. guaranteed a bank loan or line of credit
It is difficult for small businesses to operate without providing personal guarantees because there are no substantial assets to cover the liability if the business fails. So, unless you have an investment of some sort, providing your creditors with a guarantee usually comes in the form of a personal guarantee, making you liable for the cost if your business can’t make the payment.
Should I work as a sole trader?
If you are not planning to grow your business, get investment, and ultimately sell your business once it is successful, then working for yourself as a sole trader is a simpler way to set up and run your business.
As a sole trader, you:
- Can set your business up faster.
- Have lower startup costs and less administration to set up your business.
- Have fewer ongoing regulations to comply with.
- Have no requirement to understand Director and Company responsibilities.
But what about my risk of liability?
Most sole traders don’t need creditors to perform self-employed work so generally, the risk of liability is less. If you work in an industry that carries the risk of professional errors and omissions, you can manage the risk by obtaining relevant insurance policies such as Professional Indemnity, Public Liability, and Statutory Liability. At freemeup, we can get you your business PI, PL, and SL insurance policies sorted out to manage that risk.*
If you are not sure which structure you need for your business, get advice from your accountant or professional business advisor.
*Service Agreement applies
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