If you have big plans for your sole trading business, you may be thinking about how the structure of it might change in the coming years. For many sole traders, transitioning to a limited liability company is a logical next step.
Of course, it is a decision that should be made at the right time, and for the right reasons. We asked Jarrod Walton, a chartered accountant and director at Chapmans Chartered Accountants in West Auckland, to share the key things to consider when making the transition.
What is the difference between being a sole trader and a limited liability company?
As a limited liability company, all of a business’s assets, debts, profits and liabilities are listed under a registered company name.
“Anyone can be a sole trader,” says Walton. “All you have to do is declare your annual income to the Internal Revenue Department, and pay the required income tax on those earnings.”
When your income as a sole trader reaches NZ$60,000, you are also required to register for, collect and pay GST.
And, while this doesn’t require you to become a limited liability company, Walton says he believes reaching the GST threshold is often a good time to consider a switch.
What are the benefits of becoming a registered business?
“The first thing is that being a registered business legally provides additional protection from liabilities you could face as an individual,” says Walton.
Any risks when you’re a sole trader are in your name, he explains.
If you’re selling clothes or mowing lawns, these risks may be minimal. But if you’re offering services or providing products that expose you to any liability, it’s worth considering having that under a separate entity.
This is also particularly important if you have, or plan to have, employees.
Secondly, there are tax advantages.
“Being a limited liability company enables accountants to structure your business affairs to save on income tax, and other claimable expenses,” says Walton.
The third reason for moving on from your sole trader status is precisely that – status.
There is undoubtedly an element of professionalism that comes with doing business under a company name, rather than as an individual. Sometimes this perception is just what you need to amplify your offerings (and income)!
Walton also notes that, if you wish to introduce any additional shareholders, you’ll need to be trading as a limited liability company.
What are the downsides of becoming a registered business?
For someone who wants to run their sole trader business with a minimum of fuss, it may seem like becoming officially registered is more work than it is worth. There are added costs ($160 to register and $45 per annum), and you will need an accountant to take care of all the extra administration required each year to ensure everything is done correctly.
But, as Walton notes, any potential downsides are often mitigated with the added tax benefits of trading as a limited liability company.
So how do you become a limited company?
The best place to start is by talking to your accountant or contacting a trusted business advisor.
“Many accountancy firms offer obligation-free discussions on making this transition,” says Walton. “It’s what we do daily – we need to make sure you understand everything about your obligations before moving forward.”
The process itself isn’t too difficult (depending on your business structure) and the first step is to register your company with Companies Office – this is known as incorporating a company.
You’ll be able to check that the company name you want is available, reserve it and register it by paying a fee. You will then be given an NZBN (New Zealand Business Number) that you will use when dealing with the government, suppliers and customers. Every registered business also has to declare information about the company’s directors and shareholders – even if there is only one.
Following this initial stage, there are other processes to complete, including establishing a bank account for the company and transferring assets into the company’s name. It is best to do these tasks in consultation with your business accountant.
New Zealand is a country built on small enterprises. But Walton explains that knowing what it means to become a limited liability company is crucial for many New Zealand sole traders to ensure they are running their business efficiently and effectively.
“It’s important because people should have a structure and plan in place from the outset, as not doing it right can cause headaches down the track.”
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