What is the best business structure for an online business?
If you’re starting an online business, you’ve probably stumbled upon the issue of business structures and may be feeling a little lost.
As the pandemic continues to affect people all around the world, more and more are turning to the internet to start a business.
And that’s not surprising considering the wealth of opportunities you’ll find there. It’s estimated there will be 2.14 billion digital buyers in 2021.
Whether you’re in e-commerce, freelance writing, dropshipping, SEO, graphic design, affiliate marketing or becoming a YouTube or Instagram influencer, business structures will be critical in all these fields.
Below, we’ll outline why a business structure is important, and outline the arrangements you can consider before embarking on your internet journey.
Why a business structure is important for an online business
Choosing the right business structure online is key because of the:
- Tax implications
- Risk management
- Asset protection
- Legal costs
It’s important to consider a business structure before you start operating, as you can prevent a lot of issues later down the line.
For example, you may decide to run a business as a sole trader but later realise it too tax-heavy on your income. Your circumstances may have allowed you to benefit from establishing a trust.
Alternatively, you may wish to start a company but soon learn the process is too burdensome and expensive relative to the income you’re generating.
Below, we’ll outline a range of common structures that may be available to you in Australia.
What is the best business structure for starting an online business in Australia?
There is no ‘best’ business structure when running an online business as everything will depend on each business owner’s individual circumstances.
It is vital to receive legal and tax advice before making your decision. You want to be sure your interests are protected, and your tax obligations are minimised to the lowest possible extent.
Some of the structures for a small business online include:
- Sole trader
Sole traders are the simplest, cheapest and most popular option for creating an online business.
All you really have to do is set up an Australian Business Number (ABN) and, if applicable, register for Goods and Services Tax (GST) or Pay as You Go (PAYG).
Any profits you make as a sole trader will be taxed at your marginal tax rate. So, for example, if you’re a sole trader and working full-time as an employee, the money you make as a sole trader will be ‘added’ to your regular income. You will then be taxed accordingly.
Your assets as a sole trader are also unprotected. If your business incurs a debt, for instance, you as an individual will be personally liable (meaning your house and car, for example, are at risk).
Most online business owners are sole traders. In June 2020, 2.4 million small businesses existed in Australia, and 1.5 million were sole traders. In the 2019-2020 financial year, we saw the addition of 55,900 new sole trader businesses across the country.
Xero’s comprehensive report on small business, Xero Boss Insights 2021, called sole traders the “indisputable bedrock of Australian entrepreneurship”.
- Easy to set up
- Profits taxed at marginal rate
- Personal liability for debts
You can learn more about starting a business as a sole trader here.
Becoming incorporated as a company online creates a legal entity separate from you.
Companies are difficult and expensive to set up and maintain, and they involve quite a lot of paperwork. You’ll need to register a company with the Australian Securities and Investments Commission (ASIC), draft a shareholder’s agreement and possibly a company constitution. You’ll need to register for a Tax File Number (TFN), an ABN and also GST/PAYG if applicable.
ASIC will send you an annual statement every year. You’ll need to check this statement and pass a solvency resolution.
There is a large amount of tax reporting you’ll be required to complete each year too. For example, you’ll need to submit a business activity statement (BAS) – either monthly, quarterly or annually. This is used to inform the Australian Tax Office (ATO) on your withholding tax, GST, PAYG and other tax obligations.
If you’re a director of a company, you will also be subject to the law of directors’ duties as you must act in the company’s best interests. You also have a duty to ensure your company doesn’t trade while insolvent (and penalties apply if you let this happen).
However, companies are still a popular choice because your liability is limited. If a company incurs debts, a company’s shareholders are not personally responsible. Your personal assets will also be protected (only the company assets are at risk). Directors, however, may be personally liable if they breach their duties under the Corporations Act 2001 and other laws.
Companies are also subject to a company tax rate of either 27.5% (for small companies) and 30% (for large companies).
- Limited liability
- Personal asset protection
- Expensive to set up and maintain
- Stringent director duties
You can read more about starting a company here.
Partnerships are groups of people who run a business while distributing income and spending between one another. The structure therefore allows you to enter into your online business with various people and share the income.
Generally, they’re much less expensive and easier to set up than companies. You’ll need to register for a TFN, an ABN and also GST/PAYG. You may also wish to draft a partnership agreement.
However, the downside is that partners are individually and personally responsible for debts that are incurred by the partnership. If your partner has become liable to pay a debt, so have you.
Unlike a company structure, which has “limited liability”, partnerships come with so-called “unlimited liability”.
Furthermore, unlike a company, partnerships are not a separate entity when it comes to tax. All profits you earn in a partnership are taxed at each partner’s marginal tax rate.
You’ll need to lodge a partnership tax return and declare the income earned by the partnership, the expenses to deduct and how income and loss was distributed throughout the partnership.
Further, if your partnership owns assets for the purposes of capital gains tax (CGT), each partner owns a proportion of each of those CGT assets.
- Easy to set up
- Unlimited liability
- Taxed at each individual partner’s marginal tax rate
You can read more about setting up a partnership here.
A trust refers to structure whereby one person (a ‘trustee’) holds property for the benefit of another (a ‘beneficiary’).
Technically speaking, trusts are not a legal entity. Trusts are a ‘relationship’.
But for the purposes of your tax, trusts are treated as taxpayer entities. As a trustee, you would be responsible for managing the tax affairs of the trust. This would include registering a trust, lodging the trust’s tax return and paying some of the tax obligations.
It’s fairly costly to start up a trust. Just like with the other business structures, you’ll need to register for a TFN, an ABN and GST/PAYG if applicable. You will also typically need to create a trust document (called a ‘trust deed’) and settle the trust. This might even involve creating a company and having a corporate trustee.
Liabilities in trusts can get a little complicated. The income that flows to your trust beneficiaries are taxed at each of those beneficiaries’ marginal rates. Furthermore, income held by the trust itself will be taxed at the highest marginal rate possible.
- Tax advantages if you have a family trust (also called a discretionary trust)
- Tax advantages if you have a unit trust
- Difficult and expensive to set up
- Trustee liable for debts of trust
You can read more about setting up a trust here.
Consult a tax professional when starting an online business
We strongly recommend speaking with your accountant when starting and running an online business. This will help you determine the right business structure for you.
Generally, for individuals, operating as a sole trader is the most popular when growing a business on the internet. But it may not be the right option in all cases.
Our tax and accounting experts here at 2account are specialists in choosing the most tax-effective business structure for your online business.
We’ll look at the vision you have for your online enterprise and provide advice tailored to your goals. We’ll handle all the paperwork and ongoing accounting obligations for you too, so you can focus on doing what you do best.
Book in a call with us today and let’s discuss how we can help you grow your business online, so you don’t ever have to worry about the financial side of your venture.
No information in this article constitutes legal or financial advice and is purely general in nature. The information may be simplified, summarised or incomplete. Ensure you consult a legal and tax professional before starting your online business.