What’s the best structure for a new business?
13 February 2015
What’s the best structure for a new business?
When you’re setting up a business, one of the first things you need to decide is which business structure you’re going to use. It’s a decision that will have significant tax implications and also impact things like National Insurance, your legal position, the records you have to keep,the authorities you need to notify and how you can raise money in future.
We would always recommend that you take separate accountancy and tax advice when deciding which structure to choose as the vehicle you decide to operate through must be right for you both from a legal and taxation perspective.
There are four main business structures to choose from, each with their own advantages and drawbacks:
- Sole trader
- Limited company
- Limited liability partnership
Operating as a sole trader
Sole trader is the easiest, quickest and least formal way to run your business. As the name suggests, if you’re only planning to operate on your own, it’s probably the best place to start. There’s only one form to fill in, to let the Tax Office (HMRC) know you’re self-employed, and that’s it. You decide what you want to call your business, print your business cards and away you go. You are the boss, the only decision-maker, the sole shareholder. Any money you make goes straight into your pocket (after tax, of course).
The main disadvantage in becoming a sole trader is on the legal side – you are held personally responsible for the debts and liabilities of your business. So if it goes bust owing people money, your house, car or possessions could be on the line. Because there is no formal business structure, it is also much harder to sell a sole tradership or to pass it on to someone else, and it’s harder to raise money from banks or other finance providers.
Setting up a limited company
Forming a limited company adds credibility to your business. It may also make it easier to borrow money in future. But it’s more bureaucratic than operating as a sole trader, and there is significantly more administration to keep on top of. You need to notify HMRC and register your company with Companies House (called company formation). Then every year you need to file annual accounts and tax returns, along with National Insurance contributions and PAYE every month.
If you’re going into business with someone else, you’ll need a Shareholders’ Agreement that sets down precisely how many shares (i.e. what proportion of the company) each of you owns. You’ll also need a Memorandum or Articles of Association, which form the company's constitution, defining the responsibilities of directors, the kind of business to be undertaken, and the means by which the shareholders exert control over the board of directors. This might not mean much in practice when the business is small, but will likely become increasingly important as it grows.
The great advantage of company formation is that the company is recognised as a legal entity in its own right. So if anything goes wrong, you are not personally liable for the debts or other liabilities of the company. The tax implications of company formation also tend to be more beneficial, particularly as the business grows. You will obviously need to take your own accountancy and tax advice on that.
Establishing a partnership
If you’re going into business with a friend, colleague or family member, a partnership might work for you. At a basic level (called an unlimited partnership), it’s like being a sole trader – except there are more than one of you.
The partnership is based on a ‘partnership agreement’. This is a legal document that sets out how the liabilities, ownership and profits of the business are split and what happens if one partner wants to leave.
Like sole traders, though, all partners are responsible for any debts owed by the business. This doesn’t only apply to debts you have personally incurred, but to those of your fellow partners, too. So you need to keep a close eye on the conduct of the people you go into business with.
Incorporating a limited liability partnership
A limited liability partnership (LLP) is like a hybrid between a limited company and a traditional partnership. It combines the protection of the limited company, with the tax regime and flexibility of a partnership.
Just as with a limited company,an LLP protects its partners’ (or members’) assets, limiting their liability to however much they’ve invested in the business and any subsequent personal guarantees they may have given when raising loans. It doesn’t provide the same tax advantages as a limited company, however.
Like a partnership, you’ll need to have a partnership agreement drawn up, to establish the legal foundations of the partnership.
How Lyons Wilson can help
Choosing the right structure for your business is an important decision. There is no right or wrong choice – each one has different benefits and weaknesses, different tax implications and legal and administrative responsibilities.
If you need help understanding the options available to you, or would like legal advice on company formation, articles of association or on drawing up a partnership agreement, get in touch with our team today.
Back to News