When you set up a business in the UK you have a few options about how to structure your business.  I discuss the three most commonly used forms below.

When going into business a key decision is which legal structure to use as it will influence your exposure to financial loss and the accounting and tax rules that need to be followed.  The most appropriate structure will be influenced by your business plans now and in the future and also your personal circumstances.

The three most common options are:

Sole Trader

This is the simplest form of trading; you personally trade by yourself.  You may employ staff but you as an individual are trading with your clients or customers.  

You will be required to let HMRC know that you are in business and will be required to keep records from which accounts are prepared.  

The profits from the business are automatically your own, meaning there is little formality about how your take money out of the business.  

You will be taxed on your profits each year and only specific businesses, like farming and artist can average out profits. 

There is no distinction between your business affairs and your private affairs when you trade as a sole trader.  This means that if the business runs up debts or incurs any uninsured legal obligations you are personally liable for them, meaning you could lose everything you own.

Partnerships

This is where several people come together to run a business collectively pooling knowledge and business resources.  

It is recommended that a partnership agreement is drawn up setting out rules about how the partners work together.  This will include how the profits of the business are shared out.  

Accounts are drawn up for the partnership and the partnership has to prepare a tax return, although the partnership itself does not pay tax.  Each individual partner then has to prepare their own individual tax return and is taxed on just their share of the profit.

As with sole traders there is no distinction between personal and private affairs and a partner could lose everything if the business runs into trouble.  If this situation occurs there is no loss sharing, if one partner cannot pay anything towards the debts then the other partners are liable.  This is referred to as “joint and several” liability.

Limited company

A limited company is a separate legal “person” and as such can separate a businessperson’s business and private affairs.  The company must be formally set up and registered at Companies House.

Because the company is a legal entity in its own right, it is the company that trades, and any profits belong to the company as a result.  The company can also own things in its own right, such as company vans, computers and property.

As a result of this the company prepares accounts and pays tax to HMRC on its profits.  

When you run a business using a company you have several different “hats”, these are owner, director and employee.  You must follow various rules in each of these capacities.  

You own the company by means of owning shares in it.  This gives you the right to received dividends form the company, these are distributions of profit and must be “voted” in accordance with certain rules.

You will act as a director of the company, meaning you are the human responsible for enabling the company to trade etc.

As director you will usually also be paid a salary by the company.  Technically you are what is called an “office holder”, but if you think of it as being an employee you will understand how you are paid.

A sole trader can simply take money out of his business bank account when needed.  This is because he/she is the business.  When you operate as a company you cannot do this because the money is not yours.  It belongs to the company.  

You will have to formalise how money is taken out as salary and dividend.  The advantage however is that you can balance the split to minimise your tax bill and spread your income out over good and bad years.  

As long as a director does not draw more money out of the business that is owed to him, does not sign any personal guarantees and avoids fraudulent trading (trading when you know you cannot pay your bills), then the director will not have to pay the debts of his company and this protects personal property such as a house and savings should the business run into trouble.

More than one person can have shares in a company so several people can come together to set up a business.  Also, someone can own shares without being a director and vice versa which means there are options for tax planning and how the business is managed.  You do need to set things up correctly from the beginning and be careful with any changes because they can cause unexpected tax bills.

As you might imagine there are additional costs to running a company but there are also significant advantages for many businesses, although these are being eroded by future tax increases.  

Other forms of business

There are some other forms that businesses can take, they are usually used for community projects or charitable purposes.  If you want to read about them here is a link: https://www.gov.uk/set-up-a-social-enterprise .  I don't look after these kinds of organisations.

How I can Help

This can be quite a complicated area, so it is always good to seek advice.  I am happy to review how best to start in business or if it is appropriate to change the way you are trading.  It can often be a good idea to start as a sole trade and incorporate later if the business proves to be successful.  

If you think I could be of assistance, please feel free to ask for your free consultation.