The Freelancing Diaries: Should I operate my creative business as a sole trader or set up a company?

4 weeks ago by

This year we’ve teamed up with Hnry to bring you ‘The Freelancing Diaries’, a series helping freelancing creatives navigate self-employed life and find their version of financial success.

This quarterly content series is chocka with freelancing business tips to help you navigate running a creative business, as well as de-mystifying some of the barriers for those considering taking the leap.

For our final feature of the series we’re talking pros and cons of operating as a sole trader vs a company.

Thinking of starting your own creative business this year? Register here to attend the Free webinar: ‘Pros & Cons of being a Sole Trader vs Company’ we’ll be hosting on 30th May w/ Hnry and bring your questions!

Have you ever grappled with the fear of not looking/feeling/being legit enough?

This is something that may hit especially hard if you’re someone who’s recently taken the leap to start your own creative business and is working hard to build up your client base.

Since looking legit = more clients = more $$, some folks try to make their small businesses look and feel bigger by doing things like operating their freelancing side gigs under a company structure simply because it might give them a little more clout when dealing with clients. 

And they may also be running off the myth that in order to be able to charge GST, have a trading name, and call themselves a ‘studio’ that they must be set up as a company. ( but spoiler alert you don’t. )

So in today’s article ( and in our upcoming Free webinar with Hnry ) we’re going to demystify the pros and cons of operating under a company structure versus being a sole trader, so you can get a little more clear on what may be the best for your business.

The TL/DR 

  • A ‘company’ = a legal entity. 
  • A ‘business’ = any trading operation where goods and/or services are being sold.
  • You don’t have to register a company to be a self-employed contractor or freelancer. See below the list of things you can do as a sole trader. 
  • You do not pay less tax if you pay yourself through a company vs as a sole trader
  • A company structure partially reduces your risk, but if there are personal guarantees involved or you’re guilty of reckless trading then you are still personally liable.
  • See the Pros & Cons graphic below

Let’s get clear on the terms ‘company’ and ‘business’ as they mean two different things.

You’ll often hear people use the words ‘company’ and ‘business’ interchangeably but they have different meanings.

A business is any trading operation where goods and/or services are being sold. You can run a business as an individual sole trader, freelancer, or contractor. You do not need to be registered as a company to run a business.

A company is a legal entity registered with the Companies Office. Companies have their own set of tax and compliance obligations that are separate from your obligations as an individual taxpayer. They also require directors and shareholders, which if it’s just you running the biz then this will be YOU.

As a director of a company, some of your obligations include:

  • Filing annual company returns with the Companies Office 
  • Calculating, paying, and filing company Income Tax (IR4) returns annually, which are more complex than personal Income Tax (IR3) returns
  • Managing company ACC levies and payments

Each of these is in addition to any tax responsibilities you have as an individual. 

Meaning you’ll still need to manage your individual tax returns, ACC levies (where not covered by the company), and any other personal tax and compliance requirements.

You don’t have to register as a company to be a self-employed freelancer or contractor.

Operating as a Sole Trader you can still do all of these things:

  • register for GST
  • raise invoices
  • claim expenses
  • hire staff
  • depreciate assets
  • trade under a Trading Name
  • have a website
  • have a physical location
  • use business cards.

Generally, it’s only necessary to register a company if you:

  • Employ staff on permanent or fixed-term salaries, and use payroll services (although you can do this as an individual)
  • Need to maintain a complex inventory of goods, and manage the supply of your inventory
  • Have creditors, and/or other organisations are providing you a line of credit to allow you to defer payment for their goods and services
  • Have multiple Directors, shareholders or a complex ownership structure that requires a company

And managing these company requirements requires more complex accounting software, payroll software, and inventory management tools.

So if you don’t plan to have this level of complexity, registering a company can be unnecessary and result in increased costs.

I’m running a freelance creative business. Does operating as a company mean I pay less tax personally?

While it’s true that the Corporation Tax in New Zealand is a flat rate of 28% (which is lower than the individual top rate of tax of 39% ), it doesn’t mean that you as an individual can pay less tax by earning through a company.

When you pull money out of a company and pay yourself as an individual, you pay income tax, ACC and any other applicable taxes on that income at the same rate as everyone else.

So, in summary – No. 

As an individual, the tax rates are all the same, whether you are paying yourself through your registered company or as an individual.

 Does registering a company reduce my risk?

The answer is – Partially but registering a company doesn’t necessarily reduce your risk if you are a contractor or freelancer.

A company structure may benefit you if: you’re running a business that takes on large numbers of creditors or debt. In this case structuring yourself as a company can give you some protection if your company is forced to file for bankruptcy.

But there are cases where a Director of a company would still be responsible for the activities and actions of that company.

For example – personal guarantees.

With small companies, it’s common for banks or suppliers to ask for personal guarantees.

If a personal guarantee is in place, a company structure essentially provides no protection for personal assets.

For example – reckless trading

Directors may be found personally liable if the company is engaging in “reckless trading” which means running your business in a way likely to create a substantial risk of serious loss to the company’s creditors.

Many sole traders don’t have creditors for their self-employed work. If this is you there’s no risk of defaulting on a personal loan, or reckless trading, and therefore no real need for an LLC.

If you work in an industry where there is risk – such as potential accusations of malpractice – or if your clients require you to further mitigate risks, then you can take out a Professional Indemnity and Public Liability Insurance policy. 

This would cover you if any legal action was being taken against you. This insurance is very easy to get and cheaper than registering a company.

Still unsure about whether to operate your creative business as a sole trader or register it as a company?

We’ll be diving deeper into this topic at the upcoming free webinar on 30th May where our Hnry specialist will take us through not only the pros & cons of both structures but also answering your burning q’s so you can find clarity on the right way forward for your business.  All registered attendees will be able to attend live and receive a recap link to rewatch the webinar on-demand.

Hnry also have this helpful quiz on their website to help you decide what’s the right structure for your business. TAKE THE QUIZ: Should I be a sole trader or register a company?

And for the visual people out there we’ve put together a side-by-side summary of the pros & cons of each to give you a quick overview. 

Sole trader - Pros:

Simple Setup: Establishing yourself as a sole trader is relatively straightforward. You don't need to go through the formal registration process.

Full Control: As a sole trader, you have complete autonomy over decision-making without needing approval from partners or shareholders.

Tax Benefits: Sole traders enjoy certain tax advantages, including the ability to claim deductions for business expenses. Additionally, you can offset business losses against other income, potentially reducing your overall tax liability.

Sole Trader - Cons: 

Personal Liability: You are personally responsible for all debts and obligations of the business, which puts your personal assets at risk in the event of legal issues or financial troubles.

Limited Growth Potential: Sole traders may find it challenging to scale their businesses compared to companies. Limited access to capital and resources can hinder expansion opportunities, potentially restricting long-term growth prospects.

Perceived Credibility: Some clients may prefer to work with registered companies rather than sole traders due to perceptions of increased professionalism and stability.

Company Pros:

Limited Liability: One of the biggest advantages of forming a company is limited liability protection. Shareholders' personal assets are generally safeguarded from business debts and legal liabilities, offering a layer of financial security.

Access to Capital: Companies have various options for raising capital, including issuing shares, securing loans, and attracting investment. This access to funding can facilitate growth.

Enhanced Credibility: Operating as a registered company can enhance credibility and trust among clients, suppliers, and investors.

Succession Planning: Companies have the advantage of continuity, as ownership and management can be easily transferred through share transfers or succession planning strategies. 

Company - Cons:

Complex Compliance: In Aotearoa NZ, Companies are subject to more stringent regulatory requirements compared to sole traders. 

Higher Costs: Establishing and maintaining a company structure entails higher costs than operating as a sole trader. These expenses include registration fees, ongoing compliance costs, and potentially higher tax rates on profits.

Limited Control: While shareholders have a say in major decisions through voting rights, company directors must act in the best interests of the company as a whole. This may limit the autonomy and flexibility enjoyed by sole traders in managing their businesses.

In conclusion, both sole traders and companies offer their own advantages and disadvantages. The choice between the two depends on things like your risk tolerance, growth aspirations ( ie do you plan to take out a large loan? ), and personal preference. 

If you’re considering starting your own creative business come along to the FREE webinar on 30th May to learn more and ask questions during the Q&A session with our Hnry expert.

*DISCLAIMER: The information on our website is for general educational purposes only. It doesn’t cover all situations and circumstances, and shouldn’t be taken as direct tax advice. If you’re looking for specific help with your taxes, join Hnry and their team of experts can provide you with assistance tailored to your business needs.

Register here for the Free webinar coming up on 30 May covering ‘The Pros & Cons of being a sole trader vs a company’.

If you want to attend but can’t make the live time, make sure to register BEFORE the event to receive access to the on-demand recording.

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