Business Entities and their Related Regulations and Fiscal Rules

by Damilola Adejola

 

 

In the process of formation of a new business there are various executive and strategic decisions to be made to determine the extent of its operations, the statutes peculiar to the form chosen and also the taxation laws applicable to the owner and the business entity in itself. There are a number of forms a business could take in determining the aforementioned. Listed from simplest to most sophisticated they are:

  1. Sole proprietorship
  2. Partnership
  3. Limited liability company
  4. Foreign Company (branch or subsidiary of foreign company)

All forms of business in Nigeria are subject to the rules and regulations as stated under the Company and Allied Matters Act (CAMA, 1990). The details and peculiarities of each forms of business entities and their related fiscal rules and regulations are explained below.

Sole Proprietorship: This is the most common form of business and it is owned and managed usually by one and the same individual. In this case, the business is not a separate entity from its owner and although it takes a separate name identifiable by the public, its assets and liabilities and usually non-distinguishable from its owner’s assets and liabilities. This form of business is typically easy to operate and manage. Concerning fiscal rules and related regulations, this business does not necessarily need to file legal documents; all that is required in most cases is a business license to commence operations. Under the sole proprietorship form of business, the entity’s income forms part of all of the owner’s income and it is taxable under the Personal Income Tax Act (PITA) as part of the owner’s personal tax returns. When the business suffers a loss, this is deducted from the owner’s personal income and therefore deductible for tax purposes. In this form of business, if the entity is sued, the owner is sued also and his personal exposure is unlimited as his personal assets can be taken up to settle any resulting obligations or liabilities. Payable taxes under this form of business are:

  • Personal Income Tax (owner’s personal tax)
  • Value Added Tax
  • Witholding Tax
  • Business Premises
  • Development Levy

open-for-business

Partnership: This form of business usually consists of minimum of two and maximum of twenty owners. In the banking business however, the number of co-owners required are a minimum of two people to a maximum of ten people. The details of the partnership are usually outlined in a written document called the partnership deed. However, where the partnership does not have a deed, it will be governed by the Partnership Act, 1890. The partnership deed typically contains information concerning each partner and their various responsibilities, types of partner involved, profit or loss sharing ratio, salaries (if any), and extent of liability to be borne by each partner in the case of liquidation. A partnership is not usually a separate entity in itself, it’s much like the Sole proprietorship, and however, it can hold property and incur debt in its name. It is also known as a pass-through entity and does not pay its own income tax but files an informational tax return with the IRS (Form 1065). The pro-rata share of its income and expenses are shown on each partner’s personal return, and any taxes due are paid by the partners. It has the same advantages and disadvantages as the Sole proprietorship but it has added drawbacks, i.e. a partner can be held liable for his fellow partners’ actions thereby increasing personal liabilities. Payable taxes under this form of business are:

  • Personal Income Tax (owner’s personal tax)
  • Value Added Tax
  • Witholding Tax
  • Business Premises
  • Development Levy

Limited Liability Company: A company is a group of people authorized to act as a single entity (legally a person) and recognized as such in law. It is registered under the corporate affairs commission (CAC) and subject to laws under the Company and Allied matters Act (CAMA, 1990). Registered companies have legal personalities and are owned by shareholders whose liability is limited to their investment. Shareholders do not typically actively manage a company; shareholders instead elect or appoint a board of directors to control the company in a fiduciary capacity. Companies are regarded as legal persons and have many of the same rights and responsibilities as humans do.

Companies are separately taxable entities which file a corporate tax returns (Form 1120) and pay taxes at the corporate level. They also face the possibility of double taxation if corporate income is distributed to business owners as dividends, which are considered personal income. Tax on corporate income is paid first at the corporate level and again at the individual level on dividends.

All companies operating in Nigeria outside the oil and gas sector of the economy are  required to pay income and education tax. The rate is 30% of total profit for income  tax and 2% of assessable profit for education tax. Total profit is profit after deducting previous year losses carried forward and capital allowances. Assessable profit is obtained prior to deducting capital allowances. Other Payable taxes under this form of business are:

  • Companies Income Tax
  • Education Tax
  • Personal Income Tax
  • Value Added Tax
  • Witholding Tax
  • Value added Tax
  • Development levy
  • Business Premises
 STRENGTHS AND WEAKNESSES OF THE BASIC FORMS OF BUSINESS ORGANIZATIONS
SOLE PROPRIETORSHIP PARTNERSHIP LIMITED LIABILITY COMPANY
STRENGTHS
Owner receives all profits(as well as losses) Can raise more funds than sole proprietorship Owners have limited liability, which guarantees
that they lose more than they invested
Low organizational costs Borrowing powers enhanced by more owners Can achieve large size due to sale of stock
Income included and taxed on proprietor’s
personal tax returns
More available brain power and managerial skills Ownership(stock) is readily transferrable
Independence Income included and taxed on partners’ tax returns Long life of firm
Secrecy Can hire professional managers
Ease of dissolution Has better access to financing
Receives certain tax advantages
WEAKNESSES
Owner has unlimited liability-total
wealth can be taken to satisfy debt
Owners have unlimited liability and may
have to settle debts of other partners.
Taxes generally higher, because corporate income
is taxed and dividends paid to owners are also taxed
Limited fund-raising power tends to inhibit growth Partnership is dissolved when a partner dies More expensive to organise than other business forms
Proprietor must be jack-of-all trades when a partner dies Subject to greater government regulation
Difficult to give employees long-term
career opportunities
Difficult to liquidate or transfer partnership Lacks secrecy, because stock holders must
receive financial reports
Lacks continuity when proprietor dies -life of
the business is limited to the life of the individual who created it

 

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