We talk to all sorts of small and medium business owners in and around the Loughborough area that aren’t aware of their options regarding the best structure for their business. Whether you are a new business start-up or a well-established business it is essential to know about all the options so you can make the best decision for you and your circumstances.
There are differences in the tax treatment for different structures. Although tax should not be the main reason for choosing a particular structure, it should certainly be considered. There isn’t a simple answer as to the most tax efficient structure because it varies depending on a number of factors including: profitability, number of people involved etc.
Getting professional advice before deciding on a structure is certainly worthwhile. A wrong decision at the beginning can otherwise prove very expensive.
What are the most common types of business structure?
We’ve put together some basic information about the 4 most common types of business structure. However there are other options. If you’d like to discuss your particular circumstances our highly experienced team would be happy to help.
Undoubtedly the simplest, and most common, business structure. It is just you. You can start trading tomorrow as a sole trader.
You need to tell HMRC that you are self employed within three months of commencing. This can be done either do on line, telephoning the Newly Self Employed helpline or completing and submitting a simple form. As a self employed person you will normally pay Class 2 National Insurance contributions which currently are £2.85 per week. Although calculated on a weekly basis Class 2 NI will be paid annually as part of the year end tax return submission.
If you are using your own name you need do nothing else. If you want to use a trading name (Your name t/a The Best Business in the World) you will need to check that no one else is using a similar name otherwise you could find yourself subject to legal action. There is no central point where business names are registered (there used to be) so you need to be careful about the name you choose – don’t open a shop and call it Tesco or Marks & Spencer – you probably won’t even get your door open before the writ arrives. You should always show the legal ownership of any trading name on all documents, including adverts, circulars and invoices.
If you are using a trading name, you will need to speak to your bank to ensure that they will accept cheques made payable to the business name. Don’t put yourself in the position of having received a nice cheque for your first job but the bank won’t accept it because it’s not payable to you.
A partnership is essentially two or more self employed people running a business together. Each partner needs to register as self employed with HMRC. HMRC have to be informed of the details (name, address) of the partnership so that they can issue a tax return for the partnership.
The same guidance concerning business names and bank accounts as for a sole trader applies. It is almost certain that a partnership will have a trading name so it is essential to speak to your bank.
Operating through a partnership is probably the riskiest business structure because your destiny is not entirely in your own hands or under your complete control. A sole trader has no one else to answer to and decisions do not involve anyone else. Within a partnership each partner is usually “jointly and severally liable”. This means that if your partner commits the partnership to something, you are automatically a party to that commitment and responsible for it.
Partners sometimes fall out which brings its own problems. What to do with the assets? Who gets to complete that big contract? Who keeps the name?
Before entering a partnership you need to be sure of the other partner(s) and be certain in your own mind that you can work together happily – possibly for many years.
There are very many successful and long standing partnerships which have stood the test of time and a partnership may be the ideal solution for you. To reduce the risk, it is worth having a proper Partnership Agreement drawn up by a solicitor which will set out the procedures and steps to follow in most events. This doesn’t make it foolproof, but it can help. Read more about how we can help with legal agreements here.
Limited Liability Company (Ltd Co)
This is a more formal structure where a separate legal entity is set up. The original intention of a Limited company was to limit the risk to investors. So, for example, if I wanted to invest in your business but didn’t want the open ended commitment which results from being a partner, I could take shares in a company and my risk would be limited to the amount of my investment. Even if you, as director of the company, committed it to substantial risk, no one could come to me and ask for more money.
This is still the basic principle of Ltd companies. However, it should be pointed out that the law has been tightened over the years making it easier to take action against directors who acted recklessly in running a company.
To set up a company there must be at least one shareholder and a director. There can be several shareholders and several directors. Shareholders need not necessarily be directors nor do directors need to be shareholders. However, in a small limited company, the directors and shareholders are usually the same people.
Shareholders are the people who own the company. Their share of the company, and its profits, depends on the number of shares owned. Directors are the people who run the company.
A limited company is set up with a full set of rules about how it should be operated in place. Whilst this does not entirely replace a partnership agreement, it does go some way towards it. Limited companies are subject to quite a lot of legislation, notably The Companies Act 2006, so there is much more control over how they operate.
Please bear in mind that a limited company need only have one shareholder and director, and they can be the same person. Therefore, this is an alternative structure for an individual wanting to start a business.
Because a limited company is a distinct legal entity, it should have its own bank account. It will also be required to submit accounts and a tax return to HMRC and accounts to Companies House. The accounting and reporting requirements are stricter for a limited company than for either a sole trader or a partnership. Which means there is an additional cost in operating a business via a limited company but this may easily be outweighed by other factors.
Community Interest Company (CIC)
The aim of this business structure is to benefit the community. It is generally a company limited by guarantee and therefore subject to the same legal requirements as a limited liability company but with an extra layer of supervision, The Community Interest Commissioner.
The information above covers the structures most commonly used by UK businesses. There are however other possible business structures – Limited Liability Partnerships, Co-operatives etc. Look out for our future post about these.