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Legal Considerations

The registration of your start-up business needs careful consideration, as the type of business entity under which you operate when starting or managing your own business has a huge influence on your tax liabilities.

You have to consider the impact on the various taxes and levies you are liable for when deciding on a business legal entity.

Choosing a Business Legal Entity

The type of business entity that you operate under has a huge influence on your tax liabilities. You have to consider the impact on the various taxes and levies you are liable for when deciding on a business legal entity. It is therefore important to do your homework before deciding whether you want to conduct your business through a:

  • Sole Proprietorship and Partnership
  • Close Corporation (no new close corporations can be registered)
  • Private Company or Trading Trust

Sole Proprietorships and Partnerships

By definition a sole proprietorship is a business with only one member, the owner, who must be a natural person. A partnership must have at least two and no more than 20 partners (owners). The partners may be natural or legal persons.

Sole proprietorship and partnerships are not separate legal entities. They are merely the names under which businesses operate. The sole proprietor is personally liable for all debts of the sole proprietorship, while partners are jointly and severally liable for the debts incurred in the name of and with the blessing of the partnership.

Similarly, sole proprietors are taxed on the profits of the business. Partners are taxed on their shares of the partnership income, which are added to their other incomes. Both partners and sole proprietors are provisional tax payers.

Advantages

  • There are no formalities required in setting up these types of entities. Generally a partnership will be governed by a written partnership agreement.
  • An agreement in writing is not essential, but advisable.
  • Conversion to a private company is a relatively straightforward process.
  • Losses incurred in the business can be set off against other incomes of the partners.
  • All profits or losses will vest in the owners in their personal capacity.

Disadvantages

  • There is no limit to the liability of the sole traders or partners. In the case of a partnership, partners are jointly and separately liable for the debts of the partnership. This means that if the partnership fails to pay its debts, they become the responsibility of the partners.
  • The undertaking will be as creditworthy as the owners and will enjoy a commensurate ability to expand and raise finance.
  • A partnership is restricted to a maximum of twenty people, except in the case of certain professions.
  • There is less flexibility in transferring ownership.
  • In the event of death, permanent disablement or retirement of the sole trader or a partner, there may be difficulties in maintaining the business structure.

Close Corporation

A close corporation (CC) must have at least one, but no more than 10 members. Members must be natural persons, or legal persons who represent natural persons in an official capacity.

A CC is a legal entity. Since May 2011 no new CCs can be registered, but all CCs registered at that date may continue. Profit belongs to the CC and is distributed pro rata according to members' interest. Similarly, debts are those of the CC, not the members'.

A CC is required to keep certain accounting records and to undergo an accounting survey by the accounting official. A CC is a separate tax-paying entity.

Advantages

  • Limited liability is established, but the incidence of personal guarantees, which will be quite common, may negate a certain amount of this.
  • The CC may, under certain circumstances, give financial assistance for a new member to buy an "interest" in that CC and it may acquire the interest of a retiring member.
  • There is no stamp duty payable on the transfer of ownership in a CC.
  • An accounting officer, rather than a registered accountant and auditor, is required to approve the annual financial statements of the close corporation.
  • A suitable qualified member of the CC may be appointed as accounting officer, if all the members agree in writing.
  • An amendment to the Close Corporation Act in 2006 makes it possible for an inter vivos trust to become a member of a CC.

Disadvantages

  • While the financial statements do not have to be audited, they do require the approval of an accounting officer.
  • The maximum number of people than can participate, by way of ownership, in a CC is ten.
  • The CC cannot have a company as a member, as ownership is limited to natural persons.
  • Members can incur personal liability in certain circumstances. Surety for extended credit is often required from individual members rather than from the CC. This negates the value of limited liability as well as exposing that member to risk as a result of the implied agency agreement between the members.
  • Every member is an agent for the CC, and can act on its behalf and participate in its management. Thus every member can legally bind a CC in respect of transactions with third parties.

Private Company

A private company may have an unlimited number of shareholders. Shareholders may be natural or legal persons. A private company is a legal entity registered with the Registrar of Companies. A company is owned by the shareholders and managed by the board of directors. The profit belongs to the company and shareholders become entitled to a portion of the net profit as soon as a final dividend has been declared. The debt of a company is the company's, not the shareholders'.

Advantages

  • The main advantage of a private company is that it legally provides a limit on the liability of the shareholders (owners) of the company. However, the company is fully liable for its debts and this will affect the decision as to how much capital to put into the business. In many cases the concept of limited liability is greatly reduced for new or developing businesses, as many organisations require personal guarantees from the owners for any credit given.
  • Transferability of ownership is simple and done by means of selling shares in the business.
  • A company has an ongoing existence and does not need to be wound up in the event of the death or permanent disability of the directors and/or shareholders.
  • A company is taxed as a separate legal entity.

Disadvantages

  • Costs for the formation/set up of the company are relatively high.
  • Annual financial statements have to be audited by a registered public accountant and auditor.
  • Losses in a company are not distributable to the shareholders and therefore cannot be offset against other income of owners for tax purposes.
  • Compliance with the considerable legislation contained in the Companies Act can be time-consuming and costly.
  • Stamp duty is payable on the transfer of shares.
  • Shareholders can incur personal liability in certain circumstances.

Tax Registrations

Don’t get caught flat-footed with a hefty tax bill at the end of your first year in operation. You are required to comply with a number of laws when starting your own business. Ignorance will not be entertained as an excuse if you don’t, so ensure that you know which of the following taxes you are liable for:

  • Income Tax
  • VAT
  • SITE and PAYE
  • Skills development levy

You’ll find the relevant information as well as registration and payment documents available for download at the SARS website

Labour Registrations

As an employer, you are responsible for registering employees with the Department of Labour, and further responsible for payments towards their unemployment insurance and workers’ compensation. These contributions are:

  • UIF
  • Workers' Compensation

You’ll find the relevant registration and payment documents available for download at http://www.labour.gov.za/

Patents, Copyrights & Trademarks

In all likelihood, your entrepreneurial venture is based on an original idea - your intellectual property. This refers to all creations or products of the human mind that can be used for commercial gain. While it may not always be possible to patent your idea, there are various ways of protecting your intellectual property:

  • A patent - providing time-limited protection for technical inventions.
  • A registered design – covering the aesthetic appearance of an article, shape and configuration.
  • Copyright - providing protection over a longer period for literary, artistic and musical works and other intellectual works, such as computer programmes and performers’ rights.
  • A trademark - protecting your trade name, label, logo and other means of identifying goods and services.
  • To protect your idea or invention, please contact the Companies and Intellectual Properties Commission (CIPC).

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