Before one start a business, you need to think deeply about your company structure. Even though you will be able to change the entity type of trading and / or shareholding of a company, in a future date, it does in most cases influence a few factors.
Firstly, what the options to choose from when you start trading?
1. Sole proprietor
You trade in your own name, with all potential risks in your personal capacity.
A partnership is merely two or more individuals trading together, with all the potential risks still in your personal capacity.
3. Private company
A private company is a separate entity that you can use for trading, separate from your personal capacity. Some of the risks thus fall on the company and not in your personal name, as would be in the case of a sole proprietorship. More on the potential structures a bit later.
Even though some do trade in a Trust, I do not particularly favour this. A Trust is more important as an asset carrier, than as it would be for trading. More on the potential structures a bit later.
How do I decide on what structure to use?
When I consult with a start-up entrepreneur, one of my first questions will always be …… what is your risk appetite?
This answer will most likely guide you and provide your answer for you. If your risk appetite is low and your business basis will be mostly cash driven, you will not have a lot of risk. A sole proprietorship might just be your best and easiest option.
If, however, you have a big or even a moderate risk appetite, you might want to consider opting into a company structure with shareholding belonging to a Trust and not yourself.
When you opt into such a structure you need to consider a few aspects regarding the income tax and estate implications.
Firstly, the income tax aspects:
When trading in a company you can potentially qualify as a small business corporation, with lower tax rates and accelerated depreciation methods.
To qualify as a small business corporation in short, you need to comply with the following:
If the above is applicable, the income tax rates for the company will be reduced to the following rates.
Taxable income Tax rate
R 0 - R 75,750 - No income tax payable
R 75,751 - R 365,000 - 7% of taxable income above R 75,750
R 365,001 - R 550,000 - R 20,248 + 21% of taxable income above R 365,000
Above R 550,000 - R 59,098 + 28% of taxable income above R 550,000
Any assets acquired in the company may be written off on a 50:30:20 basis. Thus 50% of the value of the asset in year 1.
Opting into this, will put the value of your estate at risk (before and after death).
The value of the shares will fall into your personal balance sheet and will be part of your estate. Putting you in a potential risk as discussed earlier.
What are my options?
In a company the directors and shareholders can be separated. Thus, the director will be a specific individual and the shareholding can be another individual or entity. I would suggest that you create a Family Trust to keep shareholding. Any growth of the value of the shares (trade company) will be increasing in the Trust and not in the balance sheet of the individual.
Using this option will keep your income tax rate at 28% from R 1. Thus, a less favourable tax rate.
What does this mean and how to decide?
In essence, you need to decide, what option you will opt into.
Important to note.
While paying less tax on the one side, your estate will be exposed. (in case of a small business corporation)
While protecting your estate, you will be paying corporate income tax at 28%.
Even though this can be changed at any time, there will be implications when the value of the shares did in fact increase.
More on this in a dedicated article.