Planning for growth
This exercise will help you identify the practical implications and considerations when growing from a sole trader into a partnership or forming a company.
In my article I highlighted that operating as a sole trader is the simplest, most flexible form of running your business but that sole trading may be the business structure for many in the creative sector by default, not by choice. If this suits your business needs, then all is well (for now at least), but being a sole trader is not a cookie-cutter solution for all business types, activities and requirements.
Whether planned or not, if you are thinking about restructuring your business into a partnership or company (or any of the other available forms of business structures), it is important to remember that beyond the business, legal, tax or accounting implications, there are also practical considerations to think about before pressing the button on your business restructure.
The perils of being a sole trader
Let’s remind ourselves of why we may want to look beyond doing business as a sole trader:
- As you are your business, you are fully and personally accountable for all business debts and liabilities.
- The nature of the structure means there can be only one owner of the business – you.
- Sole trading businesses have no continuity or succession – should anything untoward happen to you, the business will be directly affected; if you die, so does the business.
- Sole traders have greater barriers to structuring income and profits to be (legally) tax efficient, unlike other business structures.
- Sole traders have limited access to financing and investment.
- If you provide services as a sole trader (as opposed to, say, selling widgets), if you don’t work, you may not earn income – holidays, sick days or accidents may impact you financially.
- As a sole trader, your annual earnings over $48,000 will be taxed at a higher rate (30%-33%) than if the same was taxed at the company tax rate (28%).
Practical considerations going into a partnership
While it is common to enter into collaborations in the creative sector, forging a truly effective and successful partnership is not an easy or guaranteed thing.
If you decide that a partnership is the next phase to grow your business, you may wish to think about these practical questions below (in no particular order):
- Who should you partner with, and more importantly, why?
- What do you currently have to offer your prospective business partners? On the flip side, what are you expecting your partners to bring to the table?
- Will all the partners be on equal footing in the partnership business? Should it be?
- How will profits be split?
- How will being in a partnership business impact your personal finances?
- What will the shared and individual responsibilities of the partners be?
- Do all the partners understand and accept the potential liabilities and risks of being in partnership?
- Should the partnership be a general partnership or a limited partnership?
- Are the benefits of entering into the partnership greater than the disadvantages of partnerships as a business structure?
- How will ownership and use of intellectual property and business development resulting from the partnership be treated?
- How flexible is the partnership arrangements – can it be revised or renewed as necessary?
- How will you ensure the channels of communication between partners remain strong, open and transparent?
- What happens to the assets and business in the event the partnership is dissolved?
- Do you have an exit strategy? Should you?
- Can you or your partners walk away from the partnership without collapsing a successful business?
I strongly recommend having a clearly defined, mutually agreed, written and signed Partnership Agreement. Your answers to the questions above will feed into the details of the agreement. It is worth the effort (and money) to take independent advice from a qualified lawyer or business advisor.
Practical considerations for incorporating a company
The limited liability company is the most popular form of business structure in New Zealand, and it is quick, easy and efficient to incorporate a company.
If incorporating a company is what you think will grow your business to the next level, you may instead wish to consider these practical questions below (also in no particular order):
- Why do you need or want the formality of an incorporated company to conduct business?
- What will you call your company? Have you thought about your business branding?
- Will you need to employ staff? If so, do you understand employer’s obligation and employment law?
- Do you have a business plan? Is it in your head or written down? Have you sought feedback on it? Does your business plan include a business growth plan and a marketing plan?
- Do you understand the Companies Act 1993 – have you read it or a good summary of it?
- Are you resourced to meet the administrative and legal requirements of operating a company, e.g. keeping accounting and legal records?
- Should you have a constitution for your company or can your business operate relying primarily on the Companies Act 1993?
- How many shares will you issue and how many owners (shareholders) of the company will there be? Will these shares on registration be issued at nil value (it can) or will the shareholders invest in the company from day one?
- As a shareholder, do you understand your rights, obligations and liabilities under law?
- If you will act as a director (very likely) for the company, are you familiar with the powers, duties and liabilities of being a director?
- Do you have the right skills and experience to own and/or manage a company business? If not, how can you supplement what you have to offer?
- Do you understand the tax and financial implications of running a company?
- Are there any additional compliance or regulatory requirements that may apply to your company or your particular area of business?
- Have you considered insurance needs of the company?
- Do you understand principles of good governance and best practices operating a company?
* * * Next step * * *
Having considered the questions above, discuss your thoughts and concerns with people you trust – your spouse/partner, a family member or a friend – to get a second opinion. Then, consider your own findings along with the feedback you get, and take independent advice from an accountant, lawyer, professional business advisor or company secretary (if you can), before deciding on what business structure is best for you.