Annual Financial Statements: Fundamental Differences in Law Between Companies and Sole Proprietors Going Beyond Accounting, Taking Your Business Forward Monique Sharland CEO Business Accounting Network
Close Corporation Status • Close Corporations can no longer be formed (since May 2011). • Close Corporation’s are included under certain provisions of the Companies Act. • Close Corporation’s are not required to be independently reviewed under the Companies Act but if certain criteria are met, are required to be audited. • Financial reporting standards related to financial statements of Close Corporations falls under the Companies Act and is treated in the same way as companies.
Close Corporation Status The future of close corporation’s and the CC Act will eventually, in time to come, be dissolved leaving business owners to decide whether to: • Convert the close corporation to a company, or • “sell” the business as a going concern back to the member (sole proprietor) or members (partnership).
M1 Legal Statutes Legal Statutes Company Sole Proprietor Companies Act Yes No Income Tax Act Yes Yes Tax Administration Act (TAA) Yes Yes Other related acts, e.g. VAT Yes Yes Legal implications Onerous and expensive Simple and inexpensive
Slide 4 M1 Monique, 2019/05/25
Management Relationship Company Sole Proprietor Shareholders (can be natural Ownership Natural person person, company, trust) Director = natural person Management Not necessarily a shareholder Owner = natural person Sole Proprietor cannot be Company = employer the employer of him or Employer/Employee Director = employee herself – no employment Relationship Subject to PAYE on relationship. remuneration Not subject to PAYE
Legal status Company Sole Proprietor Business continues after the owner dies (provided Business dies upon Longevity there is a succession death of owner plan in place) Personal Liability Limited personal liability No limited personal – directors can be held liability personally and criminally liable under certain circumstances
Accounting Records – Legal Basis Company Sole Proprietor • Explicitly governed by the Companies Act Governed by: • Regulations Income Tax Act • • Onerous Tax Administration Act • • Includes all company secretarial documents VAT Act • Criminal offence if transgressed • Income Tax Act Less onerous • Tax Administration Act • VAT Act
Accounting Records Company Sole Proprietor Same as for sole proprietors plus: Customer invoices • Fixed asset register Supplier invoices • Loans to and from company shareholders, Receipts directors, employees and prescribed officers Bank statements • Record of all liabilities, including guarantees, Credit card statements suretyships or indemnities granted by co. Invoices for asset • Record of property held in a fiduciary capacity acquisitions including refundable deposits Details of assets sold, • Statements of every account held at financial amount, date and to institutions whom • Inventory records Cash book
Company Secretarial Records Company Sole Proprietor Memorandum of Incorporation (MOI) Not applicable Share certificates Shareholders register Company register • Records of the company’s directors • Reports to annual general meetings and annual financial statements • Notices of meetings • Resolutions and special resolutions Annual Duty return – submission of FAS
Characteristic of Companies Companies require an Independent Review if: 1. The company’s PIS score is over 100 but under 350,or 2. If the PIS score is under 100 and the company is non-owner managed or 3. If an independent review is required in terms of the company’s MOI What is owner managed? All shareholders are also directors. Therefore, if a company has another company or a trust as a shareholder, neither of these shareholders can possibly be directors and therefore the company would be non-owner managed.
Independent Review What is an independent review and how does it compare with an audit? • An independent review - new companies act, promulgated in May 2011 • The work involved is approximately 60% to 70% of that of an audit. • An independent review is a “negative assurance test”, that is, the work does not need to be carried out at the company’s premises, unlike an audit, which is a “positive assurance test”. • An independent reviewer’s report to the annual financial statements provides limited assurance only. An audit provides assurance. • Independent reviewer and compiler cannot be one and the same. • Not required by most small companies if structured correctly under their specific circumstances.
Audit Dispelling Myth #1 Because you have an audit firm prepare your annual financial statements does not mean that your company or business has been audited. No audit means: • No assurance will be provided in their report (to the financial statements). • Not designed to detect fraud or other devious or dishonest activities. • An audit is onerous, time-consuming, complex, strategic and methodical – and requires top skills (partner or audit manager), many positive verifications and analytical tests – hence cost.
Income Tax Basis Company Sole Proprietor Income tax payable on company’s net Income tax paid on net taxable profit taxable profit after deducting director’s only. remuneration, which is subject to PAYE. Dispel myth #2: Drawings by the owner is not regarded as a taxable “salary” therefore drawings has no bearing on income tax – only has a bearing on possible solvency.
Income Tax Rates Company Sole Proprietor Company tax (IT14 return): Individual tax rates per tables 1) 28% of net taxable profit (IT12 return) 2)Small Business Corporation (SBC) tax rates if a qualifying small business PLUS Director’s PAYE (EMP201 return) • Individual tax rates per tax tables • IT12 return
Financial Reporting Standards IFRS Not applicable to small companies or companies that do not require an audit IFRS for SME’s Fair value basis Profit or loss does not equate to taxable profit or loss Tax base Historical cost base Profit or loss equates to taxable profit or loss, excluding permanent differences
IFRS for SME IFRS for SME’s • Fair value of all assets and certain liabilities; • Tailored for small companies; • It focuses on information needs of lenders to the company; • Internationally recognized; • Increases comparability between companies and improves the efficiency of business across borders.
Financial Reporting Standards Company Sole Proprietor Governed by both the Companies Legal status Act and International Accounting Not applicable Standards • IFRS (if audited) • IFRS for SME Comprising Tax base only • Own framework (tax base)
Financial Statements Company Sole Proprietor • Compiler/independent reviewer reports • Statement of Financial Position • Statement of Comprehensive Income Income statement • Statement of Expenses Statement of Comprising • Cash flow statement Assets and • Notes relating to the results (minimum Liabilities requirements per Companies Act) • IFRS for SME disclosures
Financial Statements Documentation Company Sole Proprietor • Materiality calculation = test for Not applicable misleading or false statements • Working papers to substantiate all Documentation balance sheet accounts, income and expenditure and materiality substantiating assessments ISRS 4400 – agreed • Comply with ISRS 4410 (compliance upon services with law and integrity)
Responsibilities Company Sole Proprietor Compliance with the Companies Act and Director/s Not applicable Regulations Accounting records Director/s Owner Company secretarial records Director/s Not applicable Financial statements Director/s Not applicable Annual financial statements Director/s Not applicable Annual income statement and statement of Not applicable Owner personal assets and liabilities All tax matters, including income tax, VAT, Director/s Owner employee taxes
Example Now let’s take a look at an example of the following for comparison: 1 Annual financial reports required of a sole proprietor 2 Annual financial statements of a company
Conclusion Companies are a far more expensive entity to run than a sole proprietor. • If you are an owner-managed small business trading in a company, consider obtaining advice from your accountant to determine the correct and most cost effective structure for your business.
Join us for the next of our Business Webinar series: ANNUAL FINANCIAL STATEMENTS: IFRS for SME compared to Tax Base Accounting Understanding your financial results A webinar made simple for the SME business sector 27 th June 2019 09h00 – 10h00
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