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Often, the term company suggests that there is only one type. However, different kinds of companies and structures include those limited by shares and those limited by guarantee.  A company limited by shares is the more common company structure in Australia. Under this structure, shareholders have limited liability. A company limited by guarantee, limits liability to the amount undertaken by each member to contribute to the company property.

Choosing the right company structure is crucial for your business. This article explains the key difference between a company limited by shares and a company limited by guarantee so you can make the right choice for your business.

Company Limited by Shares

A company limited by shares is one of Australia’s most popular commercial vehicles. Its shareholders’ liability is limited to the amount (if any) unpaid on the shares they hold. This means that if the company goes into debt, the shareholders will only pay an amount proportionate to their shareholding.

Similarly, the directors of a company limited by shares are also not liable for the company’s debts. They become personally liable only if they engage in activities against their legal obligations.

The limited liability of these companies means that members’ personal assets are not at risk when they invest in the company. If the company experiences financial difficulties, its debts usually do not become the shareholders’ debts. Likewise, limited liability provides investors with certainty and security. As a result, investment is often stimulated.

Key Advantages

There are advantages to structuring your company as one limited by shares. There are two main advantages to this structure which are worth noting:

  • Limited Liability – this company structure limits members’ liability to any unpaid amount of shares they hold. If shares have been fully paid, members are not liable for the company’s debts. In most circumstances, members of a company will have fully paid shares at the time shares are issued. Further, as the company is a separate legal entity, members are not personally liable for its debts.
  • Growth Potential – if you have growth plans for your business, there are certain advantages to structuring your company as limited by shares. Third-party investors are typically attracted to this type of company structure. It limits shareholders’ liability and is often a flexible investment as it allows investors to either sell or buy more shares.

Types of Companies Limited by Shares

A company limited by shares can be either a public or a proprietary (private) company. A proprietary company can have no more than 50 non-employee shareholders. It has a restricted right to transfer shares and cannot undertake any commercial activities. The only exception is in limited circumstances that would require disclosure. Therefore, they cannot issue securities such as shares, debentures or units.

Proprietary companies can be large or small. The difference between small and large proprietary companies depends on:

  • their assets;
  • their revenue; and
  • the number of entities that the company controls.

A public company is typically bigger than a proprietary company. It can issue securities in itself to the public and has greater disclosure and reporting requirements. They do not usually limit the permissible number of shareholders and have an unrestricted right to transfer shares.

Moreover, you can list or unlist a public company on a registered exchange platform. Listed and unlisted public companies can sell shares to the public. However, companies must protect investors with higher regulatory compliance requirements. Once you have more than 50 non-employee shareholders, you must change your company structure to a public company limited by shares. You can affect this structure change through a special resolution, and you must notify the Australian Securities Investments Commission (ASIC).  

All companies limited by shares must include the term ‘limited’ in their name to alert potential creditors that the company has limited liability.

Company Limited by Guarantee

A company limited by guarantee limits its members’ liability to the amount that each has undertaken to contribute to the business’ property. A guarantee is a fixed amount. The company constitution typically details all guarantees.

As the definition suggests, members only need to pay their guarantee when the business ends. If the company ends with liabilities greater than the total amount of their member’s guarantees, they do not need to pay any more than their guarantee. This type of company can only be public. If members create the company for a non-commercial aim and its income furthers that purpose, they do not need to include the word ‘limited’ in its name.

Companies limited by guarantee are a common structure for not-for-profit organisations and charities. They are also common among recreational clubs and organisations who typically reinvest profits back into the company to further its purpose. Further, a company limited by guarantee cannot issues shares and cannot pay dividends to members. Each member of the company only has a single vote, and therefore no one person can gain a controlling interest over company assets or profits.

Key Advantages 

There are some advantages to a company limited by guarantee:

  • Limited Liability – as mentioned, the liability of members is limited to the amount of guarantee they contribute to the company property. This amount is typically nominal. Upon the winding up of a company limited by guarantee, the member must only pay the guarantee they have provided.
  • Organisation Setup – a company limited by guarantee cannot issue shares or pay dividends to members. This structure also limits members to one vote. Hence, no one person can acquire a controlling interest or vote in the organisation. These characteristics mean that the company is most suited to not-for-profit activities. This is a key advantage if you run a business for this purpose.

Key Limitations

The key advantages can also be limitations to this type of structure. If you are operating a company for profit or have plans to expand and grow your business through external capital, a company limited by guarantee will most likely not be the appropriate structure.

  • Limited Growth Potential a company limited by guarantee cannot issue shares. Its members also do not receive dividends from profits. This sort of company has no share capital and cannot raise equity. For this reason, businesses rarely use it. Instead, they are common among recreational clubs and in the not-for-profit sector. Their inability to raise capital is relatively unproblematic in this context because these kinds of companies have limited needs for capital. Such non-for-profits can gain capital through fundraisers, grants or with membership fees.
  • Compliance Obligations – there are greater compliance requirements for companies limited by guarantee. These obligations vary if the company is a ‘small company limited by guarantee’ or a ‘company limited by guarantee’. If a company limited by guarantee is small, it does not need to prepare an annual financial report or a director’s report. However, a member with 5% of votes can request them in writing, and ASIC can direct a company to prepare them.

Key Takeaways

After choosing to structure your business as a company, you should decide whether to limit it by shares or by guarantee. If your company is in the not-for-profit sector, limiting it by guarantee may be the right option for you. However, if you wish to raise capital for your business, limiting it by shares might be preferred. If you have any questions or need assistance with setting up a company, contact LegalVision’s business structuring lawyers on 1300 544 755 or fill out the form on this page.

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