If you are purchasing, acquiring, or starting a business (such as a construction or hospitality business in Melbourne), you need to think carefully about the pros and cons of which legal entity you use.
In this article we set out the preliminary tax and liability considerations of purchasing a business in your name as an Individual compared to using a Company.
Capital gains tax – Companies
If you purchase the business using a company, then, when your company sells that business in the future, your company may have to pay capital gains tax.
That is, in the year that your company sells the business, the company will pay tax on the difference between the amount that it purchased the business for and the amount that it sold it for. This amount is a ‘capital gain’, and the company will have to pay tax on that gain as though it were profit.
Currently, that tax is the Australian company tax rate, being either 30%, or 27.5% for small businesses.
Capital gains tax – Individuals
On the other hand, if you purchase a business as an individual, and you do not sell it for at least 12 months after purchasing it, then, when you resell it, you will receive a 50% capital gains tax concession.
This tax concession will mean that you will pay no more than half the maximum marginal tax rate, which on the highest tax bracket would be 22.5%, plus the Medicare levy of 1.5%. This is the maximum tax you would pay on the capital gain, based on the assumption that you are paying tax on the capital gain in the highest tax bracket in that financial year.
However, if you are not paying tax on the capital gain in the highest tax bracket in the year that you sell the business, then you could be paying significantly less than 22.5% + 1.5% tax.
In summary, then, there are likely to be notable capital gains tax advantages of purchasing a business as an individual rather than using a company.
While there may be a capital gains tax advantage of purchasing a business as an individual, there is a very good reason to use a company – to limit your personal liability.
If you purchase a business in your individual name, you are entirely personally liable for the business. If your business is successfully sued (for instance, for a breach of contract), all your personal assets are at risk. This is a cause for significant concern.
On the other hand, if you purchase the business with a company (i.e. you are a shareholder – perhaps the only shareholder), then you have no personal liability beyond the value of your shares.
Note that if you are a director of your company, if you breach any director’s duties under the Corporations Act, such as causing the company to trade while it is insolvent, for instance, then you could be found to be personally liable.
We hope that this article has been of assistance.
Please do not hesitate to call Elvin Lawyers on 03 9498 0550 to discuss your matter, or should you have any questions.