1 - Types of business ownership in small to medium enterprises (SMEs)

Question 1

Types of ownership in small to medium enterprises

Answer 1

• Sole trader
• Partnership
• Small proprietary company
• Not- for -profit organisations
• Franchises

Question 2

1. Sole Trader- Description

Answer 2

• A person who owns and runs a business as an individual.
• They may employ other people, but they own and make all the decisions for the business themselves.
• All contracts and assets are legally ties to their name.
• It’s not a ‘separate legal entity’

Question 3

1. Sole Trader- Profits

Answer 3

• All profits belong to the sole trader

Question 4

1. Sole Trader- Liability

Answer 4

• Because the business is not a ‘separate legal entity’ , the owner, rather than the business itself, is liable for any debts and damages caused by the business.- Called ‘unlimited liability’.
• Responsible for paying debts and fines

Question 5

1. Sole Trader- Tax

Answer 5

• Because the business is not a ‘separate legal entity’, profit is treated as the personal income of the sole trader and must be included in the owner’s personal income tax return.
• Taxed at personal income rates
• Only one tax-free threshold
• No opportunity for the owner to distribute any income to any other party to minimise tax
• A small proprietary business may be a more tax- effective business structure than a sole trader
• Small proprietary businesses pay a flat company tax rate of 25%, whereas marginal personal tax rates can reach 45% for taxable income of $180, 001 and over.
• All businesses with a turnover of $75,000 or more must be registered for the Goods and Services Tax (GST).
• If a business has employees, the tax must be withheld from their wages (Pay as you go PAYG) and paid to the Australian Tax Office.

Question 6

1. Sole Trader- Advantages

Answer 6

• Quick, cheap and easy to set up
• Owner has complete decision-making control
• Owner can choose their own work hours
• Owner receives all profits

Question 7

1. Sole Trader- Disadvantages

Answer 7

• Limited lifespan
• Limited access to capital (money)
• Unlimited liability
• Owner may have to work long hours and not take holidays as no one else to continue the work.

Question 8

2. Partnership- Description

Answer 8

• A partnership is two or more (up to 20) persons who operate a business to make a profit (lawyer and accountant businesses are an exception and can have up to 100 partners).
• Governed by legislation
• The Act can be overridden by a formal ‘Partnership Agreement’ if the partners choose to write one
• All contracts and assets are in the owners’ names
• Contracts entered into by one partner are binding on all partners
• not a ‘separate legal entity’
• There are two types of partnerships: General partnerships and limited partnership

Question 9

2. Partnership- Profits

Answer 9

• Any profits are split equally between the partners

Question 10

2. Partnership- Liability

Answer 10

• Because the business is not a ‘separate legal entity’, the owners, rather than the business itself, are liable for any debts and damages caused by the business.
• A general partnership is one where all partners are equally responsible for the management of the business, and each has ‘unlimited liability’ for partnership debts.
• Any losses from trading in a partnership are split among the partners.
• The partners are responsible for the business’s debts, even if they were not the person who directly caused the debt.
• If one partner cannot pay the business debts, the other partner(s) is/are liable.
• Partners’ personal assets can be taken to pay off the business’s debts.
• The partners are responsible for the business’s debts, even if they were not the person who directly caused the debt. If one partner cannot pay the business debts, the other partner(s) is/are liable. Partners’ personal assets can be taken to pay off the business’s debts.
• A limited partnership is one where one or more partners have ‘unlimited liability’, and one or more partners have ‘limited liability’.
• Invest in the partnership and share in the profits but are not involved in the running and decisions of the business.
• Liability for debts is limited in proportion to the amount they have agreed to contribute to the partnership
• Must have a formal ‘Partnership Agreement’ written.

Question 11

2. Partnership- Tax

Answer 11

• Because the business is not a ‘separate legal entity’, the owners, rather than the business itself, is liable for any taxes.
• Any business profits are divided between the partners
• This share becomes each partner’s personal income, and each pays their personal income tax on this amount.
• All businesses with a turnover of $75,000 or more must also be registered for the Goods and Services Tax (GST).
• If a business has employees, the tax must be withheld from their wages (Pay as you go PAYG) and paid to the Australian Tax Office.

Question 12

2. Partnership- Advantages

Answer 12

• Quick and easy to set- up
• Greater access to finance
• More people share the workload and may have specialised and complementary skills/expertise.
• More people share any losses and legal responsibilities.
• May be more tax effective than a sole trader, as profits can be shared strategically among owners.

Question 13

2. Partnerships- Disadvantages

Answer 13

• Profit sharing
• Limited life span
• Disagreements
• Limited finance
• Unlimited liability:
  
  • Owners are legally responsible for all aspects of the business
  • If a partner can’t pay a debt, the other partner(s) must pay because of unlimited liability

Question 14

3. Small Proprietary Company- Description

Answer 14

• A small proprietary company (abbreviated as ‘Pty Ltd’) is a type of private business structure owned by shareholders.
• Must operate in accordance with the Corporations Act.
• Small propriety companies are not listed on the ASX, and the number of shareholders is restricted to 50.
• Shares can only be sold to people accepted by the other shareholders or board of directors.
• The capital/money of the company is contributed by shareholders through their purchase of shares, making them part-owners of the business
• Must have at least one ‘director’ responsible for keeping correct financial records and meeting all rules of operation according to the Australian Taxation Office (ATO) and the Australian Securities and Investment Commission (ASIC).
• Small proprietary companies are ‘separate legal entities’

Question 15

3. Small Proprietary Company- Profits

Answer 15

• Any profits not reinvested into the company (retained profits) are distributed to shareholders as ‘dividends’.

Question 16

3. Small Proprietary Company- Liability

Answer 16

• The business, rather than the owners (shareholders), is liable for all debts and damages- limited liability
• Shareholders are only liable to pay the company any amount unpaid on their shares if they are called on to do so.
• if the business fails, only the company’s assets (not the owners’) can be sold off to pay any outstanding debts.
• However, directors of the company may be held personally liable if found to be in breach of their legal obligations.

Question 17

3. Small Proprietary Company- Tax

Answer 17

• The business, rather than the owners (shareholders), is liable for any taxes.
• Must have their own tax file numbers and lodge their own tax returns.
• Companies differ from individual taxpayers as they incur ‘company tax’, a flat tax rate on their taxable income, regardless of the company’s income level.
• Companies do not have a tax-free threshold, and tax is payable from the first dollar of taxable income. Companies with a turnover of less than $50 million pay company tax at a flat rate of 25%.
• All businesses with a turnover of $75,000 or more must also be registered for the Goods and Services Tax (GST).
• If a business has employees, the tax must be withheld from their wages (Pay as you go PAYG) and paid to the Australian Tax Office.

Question 18

3. Small Proprietary Company- Advantages

Answer 18

• Ability to raise money from shareholders; therefore, there is far greater access to capital (funds) for the running of the business. ‣
• Owners are entitled to dividends
• Shareholders are not liable for the company’s debts (except for the value of unpaid shares). ‣
• Owners are not liable for any of the taxes
• Perpetual (infinite) lifespan;
• Easy to transfer ownership
• Generally pays a lower tax rate than individuals
• Shareholders do not have to be part of the company’s day-to-day operations but can be given a dividend from the profits.

Question 19

3. Small Proprietary Company- Disadvantages

Answer 19

• It is more expensive to establish
• Has greater reporting requirements than a sole trader or partnership
• Limits the shareholders’ say in the company’s running; they can only vote for the directors who control the company.

Question 20

4. Not- for- profit organisations- Description

Answer 20

• A not-for-profit (NFPO) is an organisation that runs in a business-like manner but is not operating for the profit or financial gain of its members.
• They aim to support and promote special causes, and include all charities and a range of community service and sporting organisations, such as the Salvation Army and Cancer Council.
• Upon the winding-up of an NFPO, any surplus profits may be distributed only to another NFPO. NFPOs are typically ‘separate legal associations’ This means the organisation has the same rights as a natural person and can incur debt, sue and be sued.
• Note: Members of an NFPO may earn a salary/wages (they are not necessarily volunteers), but profits can NOT be distributed to owners/members).

Question 21

4. Not- for- profit organisations- Profits

Answer 21

• The term ‘not-for-profit organisation’ does NOT signify that the organisation cannot make profits.
• It only indicates restrictions on what the organisation can do with its profits.
• However, any profit must be applied to the organisation’s purpose(s) rather than distributed to its members.

Question 22

4. Not- for- profit organisations- Liability

Answer 22

• Provides financial protection by limiting the personal liability of members to outstanding membership and subscription fees.
• The members/owners are not personally responsible for debts.

Question 23

4. Not- for- profit organisations- Tax

Answer 23

• If approved by the ATO, NFPOs can be exempt from taxes.
• The registration threshold for NFPOs is $150,000.
• If an NFPO has employees, the tax must be withheld from their wages (Pay as you go PAYG) and paid to the Australian Tax Office.

Question 24

4. Not- for- profit organisations- Advantages

Answer 24

• Assists the community via funds, volunteer work and paid work
• Tax-exempt if approved by the ATO
• Limited liability under the law when it comes to debts; the owners are not personally responsible.

Question 25

4. Not- for- profit organisations- Disadvantages

Answer 25

• No retained profits for owners
• Involves lots of time and effort to start and operate.
• Due to being tax-exempt, NFPOs must keep detailed financial records and provide these to the ATO to ensure legitimacy.

Question 26

5. Franchises- Description

Answer 26

• Franchising is a business model that allows a business to operate under another business’s brand.
• usually set for a defined period of 5 to 7 years. T
• A franchisee is a sole trader, partnership or small proprietary company that enters into an agreement with a franchisor to sell their products or services for a specified period in return for ongoing fees or royalties. The franchisee owns the franchise.
  -They may sell it to another person, but there may be conditions set by the franchisor.
• A franchisor sells the rights and enters into an agreement with a franchisee for a set period.
• The franchisor controls the name, brand, intellectual property and business system.
• Franchisees have to operate the business according to the franchisor’s procedures.
• A franchise may be incorporated (a separate legal entity) or unincorporated (not a separate legal entity), depending on the franchisee’s type of business ownership (sole traders and partnerships are unincorporated, small proprietaries and NFPOs are incorporated).

Question 27

5. Franchises- Profits

Answer 27

• The way profits are distributed to owners depends upon the type of business ownership used, e.g. small proprietary company, sole trader, or partnership.
• Regardless of the type of ownership, however, the franchisee must pay ongoing fees and royalties to the franchisor as stipulated in the Franchise Agreement.

Question 28

5. Franchises- Liability

Answer 28

• The liability of a franchise depends upon the type of business ownership used, e.g. small proprietary company, sole trader, or partnership

Question 29

5. Franchises- Tax

Answer 29

• Taxation of a franchise depends upon the type of business ownership used, e.g. small proprietary company, sole trader, or partnership.
• All businesses with a turnover of $75,000 or more must also be registered for the Goods and Services Tax (GST).
• If employees are hired, the tax must be withheld from their wages (Pay as you go PAYG) and paid to the Australian Tax Office

Question 30

5. Franchises- Advantages

Answer 30

• Franchisors usually have well-established operating procedures, management systems, cost structures, and revenue streams.
• Significant ‘economies of scale’
• Pre-established brand and customer base.
• Franchisor support for marketing campaigns
• Packaging and ingredients are supplied (for a cost from the franchisor), so the franchisee does not need to find its own suppliers.
• “You’re in business for yourself, but not by yourself.”
• Some of the better (and more expensive) franchise operations offer management and technical training.
• Some franchisors provide loans.
• There is no need to reinvent the wheel as franchisees get access to all the trade secrets.
• Franchisees can stick to improving their operations and let the franchisor spend the time and money developing new products.
• Often has less risk than starting a business from scratch.
• Obtaining finance from lenders may be easier due to an established market presence

Question 31

5. Franchises- Disadvantages

Answer 31

• It can involve very high initial costs, often more than starting your own business.
• Franchisees must pay some percentage of the monthly gross back to the franchisor in the form of fees or royalties, reducing their profit potential.
• With franchises, all business model aspects are determined, and there is limited flexibility to adjust.
• Some franchise contracts stipulate that franchisees must buy supplies only from an approved list of suppliers, possibly at a higher cost.
• If a franchisee finds themselves in an unsuccessful franchise, they may be stuck for years.
• The reputation of a franchisee’s store is only as good as that of the franchisor, so any difficulties the franchisor encounters will directly impact the franchisee.
• As with all business structures, the risk still exists.