When starting a new business, there are various things you need to carefully consider. One important decision you have to make relates to the legal structure you want your business to take. How you make this decision depends on a number of factors. Which structure you choose has far reaching implications. It makes sense, then, to spend some time considering the options available. What follows is the first part in our blog series guideline to help you in choosing the best legal structure for your new business. Before you make any final decision, however, we advise that you consult a legal professional.
Best legal structure for your new business: Non-profit or profit?
Under the Companies Act, there are two broad types of companies: non-profit and profit companies. You need to decide which broader category your business idea would fit into.
Does your business idea involve operating for the public benefit or for some group interest, such as religion, sciences, education, arts, charity or recreation? A non-profit company is the correct option for you.
Do you have a business idea that focuses on profit maximisation? A profit company is the correct option for you. Profit companies are used for your standard commercial ventures.
Types of profit companies
If your new business is one that focuses on profit maximisation, there is an additional decision to be made. You have to choose between the various legal structures that fall under the “profit companies” banner. Essentially, you need to look at how each type is structured, and decide whether that suits you and your new business venture.
The principal legal structures used for doing business in South Africa are:
- Sole proprietorship
- Private or public company
- Personal liability company
- Business trust
- External company
Best legal structure for your new business: Sole proprietorship?
Do you wish to own and run your business by yourself? A sole proprietorship is owned and operated by a single natural person.
Do you want to get your business starting as soon as possible? If you wish to start your business quickly, sole proprietorship is the simplest form of business entity, it is easy to establish and operate.
Are you happy to assume all risk and taxes that the business will accrue? There is no separation between the business structure and the owner, the business does not have its own legal entity. This means that the income is all for the owner, but so are the taxes and liabilities. There is greater financial risk because of the owner’s personal liability.
A sole proprietorship is a small business model. As the business grows, its liability and other risk inevitably grows, and the owner bears that unlimited liability. A sole proprietorship does not provide adequate protections for the owner when that risk increases. It makes sense, then, that a sole proprietorship is not adequately suited to larger businesses. It might only be the starting point for you.
Best legal structure for your new business: Partnership?
Do you want to own and run your business with others? A partnership is a coming together of between 2 and 20 people by contractual agreement to carry out some business.
Are you lacking individual financial strength to make the business happen? In a partnership you have greater financial strength than in a sole proprietorship because each of the partners can contribute capital.
Do you want to get your business running as soon as possible? If you wish to start your business quickly, a partnership is easy to establish and operate. The speed at which things move depend entirely on the speed at which you and your partners carry out the agreement and get moving.
Are you happy to assume all debts and taxes that the business will accrue, even if it was not your fault? As with a sole proprietorship, the partnership is not a separate legal entity, so the partners each have unlimited liability. Every partner is jointly and severally liable for all the debts of the business. This means that you can be held liable for the poor decision made by another partner.
Because of this, if you desire to enter into a partnership, it is highly important to enter into partnership only if you know you can trust your partners.
This is the end of part 1 of our series. We will continue our “how to” in part 2. If you need any advice regarding choosing the best legal structure for your new business, please do not hesitate to contact us at [email protected].