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Choosing The Right Business Structure - Part 1

01 November 2012

If you have signed up to purchase a farm or wish to re-structure your existing farm ownership, there are many factors to consider when deciding what legal entity to choose to carry on your farming business. In the long run it pays to put time and effort into getting the right structure in place from the start. This month I will explain some of the options available. Next month I will outline the factors that you need to consider when choosing the option that best suits your circumstances.

 

The options

There are four main business structures in common use. They are:

  1. Sole trader
  2. Partnership
  3. Company
  4. Trust.

 

Sole trader

If you carry on your business as a “sole trader”, you will own, control and manage your own business. You will receive all the profits and be liable for all the business debts and taxes.

 

Partnership

If you carry on the business in partnership with someone else, then you will share responsibility for running the business. You will also share the profits and losses. All partners will be personally liable for the partnership debts. The partnership income will be distributed to each of the partners who will pay their own tax on that income. If your partnership is a general partnership, it will be governed by the Partnerships Act 1908. You may also sign a partnership agreement setting out how your partnership will operate.

Another type of partnership is a Limited Partnership under the Limited Partnerships Act 2008. This type of partnership is registered with the Companies Office. A Limited Partnership (“LP”) has a limited and a general partner. The limited partner contributes capital. The limited partner’s liability is limited to that capital contribution. The general partner manages the business and is liable for the partnership debts and liabilities. The individual partners pay their own tax.

 

Company

A company is a legal entity in its own right. Companies are also registered with the Companies Office. The directors run the company. The shareholders contribute capital to and own shares in the company. The shareholders’ liability is limited to the amount of capital they have contributed. This “limited liability” makes companies an attractive option as a business structure. The company is taxed separately to the shareholders.

 

Trust

Many farms are owned or carried on by a trust structure. A common form of trust is a “family trust”. A family trust is formed when the “settlor” (usually one or more family members) transfers assets to the “trustees” (who are also often family members, but may also be professionals or unrelated to the beneficiaries). The trustees own the assets for the benefit of the beneficiaries – who are also usually family members. A family trust is usually a “discretionary trust”. This means that the trustees can decide which beneficiaries will receive the benefit of any trust income or assets and when they will receive that benefit.

Unlike a company, a trust is not a legal entity in its own right. The assets are owned by the trustees, but the trustees hold the assets for the benefit of the beneficiaries as set out in the trust deed, the Trustee Act 1956 and the general law relating to trusts. The trustees are each personally liable for the debts and liabilities of the trust unless it is specifically agreed otherwise. The trustees can pay tax on the trust income, or can allocate the income to the beneficiaries who will then pay their own tax.

A “trading trust” is a trust that actively carries on business. The trading trust uses the trust assets in the business. The trustee of a trading trust is often a limited liability company.

 

Which structure is right for you?

Each of these business structures has advantages and disadvantages and their suitability for your farming business will depend on your circumstances and your objectives. Next month I will discuss the factors that you need to consider when deciding which structure is best for you.

 

Please email me at barbara.mcdermott@nwm.co.nz with your ideas for future articles.  Keep an eye out for next month’s column, where I will discuss another relevant rural legal issue.


Barbara McDermott is a partner of Norris Ward McKinnon, specialising in commercial and rural law. With offices in Hamilton and Huntly, we have friendly, expert legal advisors ready to help you with your business and personal legal matters.