Incorporating a Small Business

One way to gain financing for your small business is incorporating. A small business that is incorporated is one that operates as a company. A certain amount of financing can be obtained by selling shares in the company to interested parties, so in effect you are offering potential investors a slice of the pie!

What is a company legal structure?

Unlike Sole Trader or Partnerships, companies are considered to be separate legal entities from the individuals who own shares (i.e. the owners). A company can legally own assets, incur debt, sign contracts, and employ people it is own right. A company can also sue or be sued.

For tax purposes a company has its own identity and must pay tax on its earnings and lodge tax returns, separate from those of its owners.

If a company gets into financial trouble, creditors can only claim assets held by the company, and not the personal assets of the shareholders, unless the shareholders have made personal guarantees for the company or offered any other personal security against the company's liabilities.

Ownership and control over the business is not necessarily the same thing in a company. The shareholders 'own' the company but unless they also hold a position on the board or are employed as a director (or manager) they do not have day-to-day control over the business.

There is usually no requirement for company directors, who do have day-to-day control over the business to own shares. In a new (small or family owned) company, this separation of ownership and control tends to be "in theory" rather than the usual practice, as the company founder is generally also the managing director.

Types of Companies

There are two main types of companies, public and proprietary. While public companies can have any number of shareholders, there is a limit on the number of shareholders a proprietary company can have.

The shares of a public company are publicly available for purchase through the share market, whereas the shares of proprietary companies are only traded privately.

There are many advantages to incorporating a small business. Your liability is limited to the amount you have already invested in the company (unless you have offered personal guarantees to creditors), companies can be expanded quite easily by increasing the number of shares available for sale, it is relatively easy to increase the number of owners and it is reasonably easy for existing owners to leave, and a company can continue to exist if the founder, managers or shareholders leave.

However, there are disadvantages as well. A company can be expensive to set up, and they face high compliance costs due to the greater degree of scrutiny they receive from government organizations (i.e., the tax office).

Thinking about Starting a Company?

While there are certainly tax advantages to incorporating a small business, the costs of compliance are considerably higher than those of a sole trader or partnership, so you need to consider this decision quite carefully.

It is possible these days to set up a company yourself using online services, but if you are new to the business world the best advice I can give you to to get some advice!

Talk to an Accountant that specialises in providing business services to small and medium businesses and has some experience helping entrepreneurs with incorporating a small business. Ask them about which options would be the most appropriate for your proposed new business.

And if necessary talk to a Lawyer before you take that final step. You know what they say - "An ounce of prevention is better than a pound of cure"

Return to top of Incorporating a Small Business

Return to Small Business Financing