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Business structure can have a significant impact on your tax obligations. Whether your business is set up as a company or you are registered as a sole trader, you want to make sure that you can achieve the best tax outcome.

Understanding the differences in taxation can help you determine whether a different structure might be more appropriate for your type of business.

Today we take a look at the different tax requirements for a sole trader and a company so that you can find real tax benefits at the end of the financial year.

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Tax-effective business structure

Here in Australia, there are a number of different business structures available but the most common are sole trader and company. When you are deciding which structure best suits your needs it’s important that you understand the specific responsibilities, as they can vary your tax liability, asset protection and have different setup costs.

A sole trader is the simplest structure and is usually suited to an individual running a business.

The setup is straightforward and low cost as you report business earnings directly through your personal tax file number. Your tax liability is based on standard marginal tax rates and you are personally liable for any financial or tax debts.

A company tends to be more complex as it is recognised as a separate legal entity. There are business registration fees payable upon setup as well as regular annual fees. Any business earnings are reported independently to the ATO and income is subject to the company tax rate.

While these differences appear substantial, they are only the start and there are many other considerations you should take into account. But once you have a tax-effective structure in place you will be able to maximise the benefits and reduce tax-related stress.

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Different tax and reporting obligations

There are some similarities between the tax and reporting obligations of sole traders and companies but there are also many key differences. These differences can help you assess whether you have the most appropriate structure for your personal circumstances.

Tax rates

As mentioned above a sole trader pays tax as per the standard marginal tax rates. This means that they are able to claim a tax-free threshold of $18,200 (as of the 2020-21 financial year) and the rate they are taxed above that amount ranges from 19% up to 45%.

For companies, you can still utilise the individual tax-free threshold and lower tax rates by paying a wage to an individual within the company. However, for larger company profits the current company tax rate is between 27.5% and 30% depending on your base rate entity status. Company tax rates are changing so it is important to discuss your current position with a professional business accountant to make sure you are meeting your requirements.

Tax return lodgement

Lodging your tax return differs depending on your business structure. Sole traders complete the process through an individual annual tax return. There is a separate section within the individual return for business income and expenses.

Australian annual corporate tax return

Company tax returns are more detailed as they include taxable income, tax offsets and credits, PAYG instalments and either the amount of tax payable or refundable based on the income figures. It is always recommended to seek business accounting services to complete your company tax return to ensure you achieve the best outcome.

Capital gains tax (CGT)

Capital gains tax also varies depending on your business structure. As a sole trader, you may be able to reduce capital gains through the discount method, indexation method or through CGT concessions that are available for small businesses, depending on eligibility.

Generally, the discount method is not applicable to companies when calculating capital gains. If your company meets the conditions of the indexation method for calculating your capital gain you must use this method.

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Additional taxes and superannuation

Depending on your business activities, you could also be subject to additional taxes and have superannuation obligations that you must meet.

Goods and services tax (GST) registration is mandatory if you have an annual turnover of $75,000 or more. This is the same for both sole traders and companies. You should also make quarterly tax payments through the Pay As You Go (PAYG) instalment system to help manage the tax payable amount at the end of the financial year.

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Both soles traders and companies can hire employees and are required to collect PAYG withholding amounts from salary payments. These amounts are reported quarterly and directly transferred to the ATO.

In addition to the PAYG withholding, you may also have a payroll tax obligation.

Employers may also have to pay payroll tax to the relevant state and territory governments if the payroll tax threshold is exceeded.

Plus, regardless of your business structure, you are required to pay superannuation contributions for all eligible employees. This is known as the ‘Super Guarantee’ and is currently set at a rate of 9.5% of an employee’s ordinary time earnings.

Finally, if your employees receive a fringe benefit, you may also need to pay fringe benefits tax (FBT).

Small business entity concessions

Regardless of whether you are a sole trader or a company, you can claim small business tax concessions as long as you meet the eligibility criteria.

For tax purposes, you would be recognised as a small business entity if you have less than $10 million aggregated annual turnover.

You could be eligible for income tax concessions, GST and excise concessions, PAYG instalments concessions and FBT concessions.

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Talk to a business accounting specialist

Business structure and tax rules are complicated and with a company, you may be able to obtain greater asset protection, cost savings and tax minimisation if you choose a mixed structure, for example, a company owned by a trust.

The team at Alliance Accounting is always up-to-date with the most recent information on tax obligations and reporting. We are here to help you determine the most tax-effective structure for your business. If you’d like to find out more about how we can assist, please contact us today.