Should you change from sole trading to a trust?

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There are several differences between sole trading and a trust. Sole traders have unlimited personal liability for business debts while a trust has limited liability through its structure. Sole traders operate under individual tax rates whereas trusts don't pay tax. Individuals are taxed only on the income they receive from the trust, allowing income to be divided among beneficiaries tax effectively.

Sole traders complete their annual tax return lodgment as an individual while a tax return has to be lodged on behalf of the trust, separate to the individual. Sole traders do not have financial reporting obligations while annual financial reporting is required for trusts. Setting up sole trading is easy with minimal fees while trusts have higher setup and operating costs.

There are two common types of trusts: family and unit trusts. Family trusts are known as discretionary trusts and are the most flexible trust structure, strictly operated between a family group. Beneficiaries do not claim a fixed interest and the trustee has full discretion in the way funds are distributed to each beneficiary. A family trust is a tax effective income distribution between family members.

Unit trusts or fixed trusts, on the other hand, allows one or more groups to be involved in the business. The profit is divided according to the unit holding like how shares operate. The profit is distributed among the beneficiaries according to the agreed percentage.

Why should you change from sole trading to a trust? A trust offers better security against liability compared to sole trading. Once a company becomes the trustee, you can access the limited liability benefits of a company structure with the tax benefits of a family trust. A trust may access small business tax concessions that are generally not available to sole traders.

There are also some disadvantages of switching from sole trading to a trust, such as higher set up fees, increased governance and losses that can't be distributed. Registering a trust may cost between $1,500 to $2,500 because of its technical nature and increased governance can be more rigid than that of sole trading. Any business detail changes that are not in line with the rules in the trust deed could cause resettlement of the trust and additional payment and tax obligations as well. Should the trust be dissolved, the process could be more complex because of the beneficiaries involved. If a trust incurs a loss, the losses are in the trust and can't be used by anyone other than the trust so it should make profit to utilise the losses.