The Tax Implication on 3 Types of Business organizations

All potential business owners need to know both the legal and tax implication of the 3 types of business organizations. Mainly, there are 3 types of business organization. The business organization can be a sole proprietorship, partnership, or company. In Nigeria, the tax rate to charge on the business organization depends on the type of the business. This article looks at the advantages, disadvantages, and tax implications on business organizations in Nigeria.

3 Types of Business organizations

Sole Proprietorship

Sole proprietorship is one of the 3 types of business organization. Sole proprietorship is a one-man type of business organization owned and controlled by one person. Therefore, it is the common and simplest form of business organization. So, the owner of this type of business enjoys all the profit and loss of the business alone and the life of the business is directly link with the owner of the business because the business dies when the owner dies.

Advantages

  • The sole proprietorship is less expensive and easy to establish.
  • It enhances quick decision-making by the owner of the business.
  • The owner of the business enjoys the profit made in the business alone.
  • It enjoys current year loss relief. I.e. any loss incurred in a particular can be relieved from all sources of income in that tax year.

Disadvantages

  • Sole proprietorship has limited access to capital
  • It has unlimited liabilities
  • The business may die when the owner dies

Tax implication

The profit made from a sole proprietorship is subject to tax in the hand of the owners based on personal income tax rates (P.A.Y.E.) on an actual year basis. Therefore, the owner of the business is required to file his/her returns to the State Internal revenue Service (SIRS) of his/her place of residence.

Partnership

This another type of 3 types of business organization. However, according to Megan O.B. (2020), a partnership is a business organization that exists between two or more people who pool their resources together to own, manage and control a business or trade. So, this type of business can be a general partnership or a limited liability partnership. So, the partners in the general partnership have unlimited liability while the limited liability partnership gives its partners the right to limited liability.

Advantages

  • The partnership enhances better decision-making.
  • the partnership agreement or partnership deed guides the management of the business.
  • The loss of the business is not bear by only one person but by all partners
  • Under a limited partnership, partners enjoy limited liability

Disadvantages

  • The partners in the general partnership have unlimited liabilities
  • The death of a partner can lead to the death of the partnership
  • It has less access to the capital when compared with the company

Tax implication

The profit made from the partnership is subject to tax on personal income tax rates in the hand of partners. More so, profit is shared among the partners based on the profit-sharing ratio in the partnership deed. Therefore, the returns of the partnerships file to the SIRS of the partnership’s place of residence which send the partners’ returns to their respective places of residence. However, new and ceased partners’ shared profit/loss is subject to tax on an actual year basis while that of existing partners on a preceding year basis. So, if a company has no taxable income or computed tax liability is less than minimum tax in a particular year of assessment, the company pays minimum tax.

Company

Here is another type of 3 types of business organizations. A company is a legal entity in which a group of people comes together to carry on a business. So, company has a legal personality, it can sue and be sued. Also, company can acquire assets, dispose of assets with its name and enter a binding contract, and so on.

Advantages

  • The company has limited liability unless where there is breached of company law.
  • Also, company has access to large capital for expansion.
  • The shareholders of a company have the right to transfer or sale of their shares.
  • The company enjoys perpetual existence because the death of a shareholder doesn’t affect its existence.

Disadvantages

  • The company is expensive to establish because of high organizational costs, legal fees, and others.
  • It is very complex to establish because of its legal requirements.

Tax implication

Based on Finance Act 2019, companies are classified into small, medium, and large companies. Small companies are companies with gross turnover of below NGN25 million, medium companies have gross turnover of between NGN25 million and below NGN100 million, while the large companies are with a turnover of NGN100 million and above. However, the definition of a small company under CAMA 2020 (as amended) contradict this definition of a small company, so the Finance Act 2020, recommended the FIRS to amend that. More so, the company income tax rate for small companies is 0% which means they are exempted from company income tax. the tax rate for medium and large companies is 20% and 30% respectively.

Conclusion

In conclusion, Understanding taxation for different business entities is very important when starting a business. Knowing the legal, advantages, disadvantages, and tax implications of the different types of business organizations by the potential business owners will help to make a better and informed decision.

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