This article is designed to help you get started on sorting fact from fiction, so you can work out the best business structure for your situation and future plans. If nothing else, it’ll make it easier to talk with a small business specialist like Afirmo about your set up.

If it’s not a company, can you call it a business?

Yes you can. A business is any activity that sells goods or services. You can own or run a business as an individual, a company or a partnership. Individuals in business are known as ‘sole traders’. They include owner operators, contractors, freelancers, self-employed people and so on. They all run a business. They can give their business a name, create a website, print business cards and put signage on their vehicle, just like a company can. They can also form a company if they want to, even if there’s only one person involved.

A company is simply a legal entity. It becomes the business, not you. A company must have at least one shareholder and one director. They can be the same person and that can be you. A company is registered with the New Zealand Companies Office. It has its own tax and compliance requirements and you still have yours as an individual.

How much extra admin does a company create?

As a director of your company, you’re responsible for making sure it:

  • Files and pays its annual IR4 tax return, which is more detailed than the IR3 a sole trader files
  • Files an annual return with the Companies Office to confirm or update the publicly available company details, including the names and addresses of all directors
  • Pays its ACC levies – sole traders and employee shareholders do this as well, just slightly differently

When you have a company you still have tax return and ACC admin as an individual, so creating a company basically doubles those obligations. 

What extra costs come with having a company?

Here are the main costs associated with setting up and running a company, rather than operating as a sole trader.

  • The Companies Office charges $11.50 to reserve a company name and a one-off $120.75 fee to register a company
  • If you have more than one director you should have a shareholder agreement and/or constitution; you might pay an accountant or lawyer to create this for you
  • It costs $41.40 a year to file the annual Companies Office return
  • In addition to the company’s IR4 tax return, a company has to prepare and file detailed financial records each year with Inland Revenue, so you’ll probably want an accounting software package, and might also employ an accountant or tax specialist to check you’ve got things right

So why are some businesses structured as a company?

Despite the extra complexity and costs involved, it can be worthwhile operating as a company in certain situations, even if you’re just a small business. Here are some examples.

  • If you have more than one owner/shareholder, even if it’s just you and your spouse or partner
  • If you become an employer of permanent or fixed-term staff, not just hiring independent subcontractors
  • If your business has substantial loans or creditors, such as people or companies providing stock or raw materials on a delayed payment basis
  • If you intend to seek investors or sell the business at some point, you can simply sell them some or all of the shares

Does forming a company reduce my personal financial risk?

The answer is “yes it can”, but not as much as it did years ago – and there are sometimes other ways to reduce some of the risks.

If you form a ‘limited liability’ company (and most companies are this type), then it’s the liability of the shareholders that is limited. The company is still fully liable for what it does and the money it owes.

However, as a shareholder your financial liability for the company is limited to the value of your shares. When most people start their own company they issue 100 shares at $1 each. It’s just an easy number to divide up and that share price keeps the liability low.

However, as a director you’re still personally liable if:

  • You have given a personal guarantee to a lender or supplier, which is sometimes required of  small businesses
  • The company has been run in a way that is likely to create ‘a substantial risk of serious loss to the company’s creditors’, which is known as ‘reckless trading’

Sole traders can get some protection by simply paying for professional indemnity and public liability insurance. These policies provide cover for malpractice and financial liability arising from loss or damage to other people’s property, or causing injury or illness to someone. Even if you’re a company, some clients may require you to have this sort of cover.

Does forming a company reduce your tax bill?

No it doesn’t. Your individual tax rate is the same whether you’re paid by your company or earn your money as a sole trader. It’s still your personal income. So, whenever you take money out of your own company to pay yourself, you pay personal income tax and ACC on it at the same rates as anyone else.

Although a company pays tax at a single rate of 28%, which appears lower than the top individual tax rates, as soon as you take the money out to pay yourself the individual rates apply. Even if you could leave most of the money in the company it would still pay 28% tax on it. However the lower personal tax bracket rates mean the effective income tax rate for (as an example) $60,000 a year is about $11,020 or only 18% overall.

Next steps

Now that you have a good understanding of the real and often misunderstood benefits of forming a company, it’s a good idea to check your structure choice with a small business specialist like Afirmo. 

Afirmo’s  Business Set Up Tool can then guide you through the set up steps, registrations and legal documents required for a sole trader, company or partnership structure – whichever is right for you. To learn more, check out the Afirmo Business Set Up Tool.