Many newly self employed people grapple with what the best business set-up is for them, especially if they plan to take on contracting roles through recruiters. Take a look at our in-depth summary and recommendations that allows contractors to enjoy all the benefits of a regular pay cheque, but allows scope to take advantage of all legitimate tax deductions.
According to the Australian Bureau of Statistics, there was a 20% increase in new sole traders in FY 20/21, with 139,559 sole traders starting their business journey. That’s a lot of people seeking employment, and it’s a fair bet many will enter the world of contracting. Contractors run their own business and sell their services to others, unlike employees who work in someone else’s business.
However, many contractors find short or long term roles via recruiters, and may take on short or long term roles directly with a single client, in much the same way an employee would. There are many advantages to being a contractor, not least of which you can expect a regular pay cheque, and can avoid the stress of marketing your business, pitching and selling yourself to find the next job. Contracting also provides good grounding as you find your feet as a sole trader.
If you find yourself drawn to the idea of contracting, it’s important to know how best to set up your business to ensure you are meeting all legal requirements, whilst still taking advantage of all the tax deductions you’re eligible to claim.
As a contractor, you will have a choice to become a sole trader (with an ABN), register as a company (pty Ltd), or remain a PAYG employee (on a recruiter’s contractor payroll) - just as you may have been with your previous employer.
Contractor Payroll
Most recruiters look after the payroll for contractors on their books. Some manage it in-house, and others outsource the service to an external payroll company. Essentially for contractors, it is the same as being a salaried employee.
On the plus side, recruiters manage your PAYG tax and superannuation, but it can be an expensive option for both contractor and recruitment agency, with external payroll agencies taking 1.5% - 3% in administration fees.
As a contractor, the downside is you’ll spend a lot of time fiddling at the end of the tax year to reconcile numerous different recruitment agency income statements (assuming you undertook several contract roles in a financial year). If an agency is using single touch payroll, records will be on your MyGov account, but if not, recruiters are required to report it to the ATO by 14 July. In some cases, it may mean chasing them to ensure they have done that.
If you think you are likely to take on more private freelancing jobs on your own as your confidence builds, then you also need to reconcile your recruiter income statements with any earnings from your private work, which can add to the hassle at tax time unless you are super organised.
PTY Ltd Companies
Setting yourself up as a company (Pty Ltd) is another option when starting as a contractor, but it is unnecessary and adds additional complexity for most people. It requires higher set-up costs to register as a company (compared to the costs of a Sole trader ABN). There is also the hassle of setting up a dedicated business account with restrictions on how you can withdraw money from that account (individuals who control the business cannot take money out of the business, except as a formal distribution of the profits or wages).
You will also need to provide company tax returns, as well as lodge an individual tax return, and make guaranteed superannuation payments.
The benefit is if your company incurs a large debt, your personal assets are protected to a degree, but most contractors are not taking out large chunks of debt, so this generally becomes unnecessary fear-mongering and largely a moot point. Depending on which state you are based, you may be required to provide worker’s compensation insurance, which can be far more expensive than a simpler accident and income protection policy you can purchase as a sole trader.
ABN Sole Traders
In our view, setting yourself up as an ABN Sole Trader is the most straightforward set-up. It still allows you to earn income from private jobs, and it is also effortless if you are contracting, without the onerous admin of a PTY Ltd.
As an ABN Sole Trader, you can still use a trading or business name, register for GST, and be eligible for work-related tax deductions that you wouldn’t be able to claim as a PAYG contractor (thus reducing your taxable income). It is also possible to have recruiters pay your superannuation contributions if you are a sole trader.
The financial admin is also much simpler. Unlike being registered as a company where you need to lodge a company return, sole traders only need to lodge a single personal tax return.
The only downside to an ABN is the requirement to cover your own insurance (where you might usually fall under a recruiter’s workers’ compensation insurance.) However, there are affordable products designed for sole traders on the market, and the cost of any insurance is also tax-deductible.
While many recruiters may have an entrenched payroll system they use for their workers and might encourage new contractors to use that, invoicing them as a sole trader is just as simple for them, and puts control back in the hands of the contractor. Operating as a sole trader means you are responsible for all your tax and expenses. You invoice them as you would with any other client, and as they would be used to from other suppliers in their business’s day-to-day running.
While all that might sound like more admin for you, all the hard work is done automatically if you have an excellent all-in-one accounting and tax service like Hnry. Once your invoices are paid, Hnry will automatically set aside your tax and other deductions such as superannuation or your Medicare levy. You get paid after-tax income just as you would if you were a PAYG employee.
As registered a tax agent and accountant, Hnry will help you minimise your tax bill by helping you deduct things like such as equipment, mileage, insurance, and anything else you need to operate your business. As part of the service, Hnry also fills out your quarterly activity statement and end of year tax return. All this at a more competitive price than the amount deducted by a payroll company (only 1 per cent of each invoice, capped at $1,500 per year).
When starting as a sole trader or contractor, it makes sense not to complicate things with unnecessary business structures and reporting requirements.