The entity or way in which a business is operated can be referred to as its structure. This could be through a sole proprietorship, a partnership, a company or a trust. Also, there can be multiple entities set up for different reasons.
Many businesses, at some point in their existence, will go through a restructure. This can be for a variety of reasons. These include:
Asset protection
Attraction of investors
Bank or financing requirements
Tax minimisation
Employee incentives
Family changes
Succession planning
For example, many businesses start off with an individual owning the business or a partnership of two individuals (say husband and wife). This structure works for a while, but as the business grows, having individuals owning the business, as a sole proprietor or in partnership, may not suit.
When assets are owned in the name of an individual or partnership of individuals, this puts the non-business assets of the individuals at risk. Creditors and aggrieved parties can bring a law suit against the business owners over business transactions. However, the liability of the individuals operating the business will not be limited to the assets of the business if the business is owned by individuals. All of the assets owned by the individuals, including their houses, investments and so forth become potentially subject to attack.
What is often done in this situation is to “roll” the business into a company. That is, the assets and liabilities of the business are transferred into a company and the individuals, or partners, that formerly owned the business are issued shares in the company in return for the disposal of the business. Among other things, this means that if the new company (that now operates the business) is sued, the liability of the shareholders is, broadly, limited to the share capital in the company.
There can be liabilities that might be imposed on the directors of the company in some circumstances, but the conduct of the business through the company should mean the shareholders of the company, that previously conducted the business, are at far less risk.
Of course, there are tax issues that need to be considered. The disposal of the assets of a business– particularly the goodwill – to a company will create a capital gains tax event. However, there is a useful capital gains tax “rollover” relief that can be used when a business is “rolled” from an individual or partnership to a company. This means that there will be no capital gains tax to pay.
Another tax issue that will need to be thought about is the comparative tax rates of the company when compared to the individuals that owned the business. Broadly, most small business companies will pay 25% on their profits. If the profits are paid out by way of dividends, there may be further tax to pay, but this depends on marginal tax rates of the shareholders.
Apart from what has been described, there are a number of other useful capital gains tax rollovers that facilitate restructuring of a business. Also, restructuring can be more complex than what has been described in this short article.
Maybe it’s time for you to discuss with us whether the current structure of your business is the best for you both now and into the future.
