Why Proper Structuring Matters for Business?

I see the same question posted in Facebook chat groups for business, LinkedIn and even discussed at networking groups. That question goes something like: “I had a business idea and set up as a sole trader or partnership, but I have been advised that I should be a Company, how do I do that?”

My first question is why did you set up as a sole trader or partnership in the first place? The common answer from accountants is that you should have proof of concept i.e. you should have customers before putting the business in a Company, to an extent that is the correct advice albeit conservative. If you know that you are going to be doing this business full time from the beginning, then just set the business up in a Company from the start.

When you set up the business in a sole trader or partnership, you (and your partner if applicable) are personally liable for any and all debts that you incur. A client of LemonAide put their business in a partnership and incurred a large amount of debt. Putting the viability of the business aside, it meant that all debts had to be paid to ensure that the partners did not go bankrupt. This meant that personal assets had to be sold to pay the debts of the business.

If the business had been set up in a Company from the beginning, the business could have been restructured into a new Company and the personal assets would not have been sold to pay the debts. The cost to set up a Company is relatively inexpensive, between $540 to $600, and can be done online by anyone who plans to be the Director of the Company. To be honest the hardest part is figuring out a unique name, you can check if the Company name has been taken through ASIC’s website.

The latest craze is to put your business into a trust. This is a very expensive structure and does not provide you with any more or any less protection compared to a Company because the trustee has an indemnity from the Trust assets for any liabilities it incurs. At the end of the day, we can help you structure your business activities for the most protection through 2 companies. We set up business structures with the end in mind not just cost effectiveness. Contact us today on 0423 055 664 if you are wanting assistance with this.

But what if I have been running my business as a sole trader or partnership?

If you have been told that you should put your business in a Company, then it depends on the current structure of the business and whom you are in business with and their intensions.

If you are a sole trader, you can place the business in a Company with a simple contract of sale. Look online for Australian legal document providers such as lawpath to be cost effective but remember that you do need to sell the business for some sort of consideration and the consideration needs to be paid from the Company to you personally. At the end of the day, you are the business and the business is you so you are only really disadvantaging yourself personally by not paying the proper consideration.

If you are in a partnership and you both want to stay in the business then the above sole trader comments apply to you – set up a company, draft a sale agreement for the business and execute. Make sure that you change all accounts held with creditors from your partnership name to the Company name to potentially avoid personal liability (unless the supplier has asked for a personal guarantee from the Directors).

If you are in a partnership and your partner wants to exit the business, then the sale of the business becomes a little bit more complex. Firstly, you should get the business valued – this means that any physical assets like motor vehicles, stock and all other assets of the business need to be valued by an independent third-party valuer. If the business has been trading for an extended period of time, then it may have some goodwill that also needs to be valued and added as a part of the sale. Finally, the business may have other assets like website, phone numbers, email addresses etc. These also need to be sold to the Company as a part of the sale. Generally, these other assets may only have a maximum value of $1,000 but could be as low as $200 depending on the nature and how many.

When you have a number for each of the above that has been obtained by a proper independent valuer, those numbers determine the proper sale price for the business. An example of how the sale price is calculated as follows:

Physical Assets –  $50,000

Goodwill               $19,000

Other Assets      – $1,000

Total Sale Price:  $70,000

Divide the total sale price by the number of partners in the partnership. If there are 2 partners, then each partner would receive $35,000 for their share of the business from the above example.

Again, the terms need to be drawn up through a sale of business agreement. There could be a variety of ways that the Company can pay for the business such as vendor finance, pay in full at the time of executing the sale agreement, a payment arrangement or even pay from the Company’s profits. Both partners need to agree on the way the Company will pay for the business and real money needs to be paid for the business. If the exiting partner agrees to be paid overtime, they should lodge a security interest over the Company through the Personal Property Security Register, which will cost approx. $750 to do correctly with all agreements drafted for you. This will mean that the exiting partner will be a secured creditor as they are funding the Company’s business in the future.

Finally, if there is a secured creditor that has provided funding to the business, they must be paid first from the sale of business proceeds. Then the excess can be distributed to each partner.

The bottom line to any sale is that the writing on the paper is most important, this includes the valuations undertaken. As you do not know the future, the paperwork is what will save you if things do not go as planned in the future such as if a partner wants to be paid early by the Company, if a partner goes Bankrupt within 4 years of the sale or if the Company does not generate sufficient sales to pay the vendor finance.

If you need any help selling your business to a Company in any of the above scenarios, please contact me on 0423 055 664. The right advice at the right time, will make a world of difference to you and your peace of mind.