Forming a Business: An Overview of Business Structures

What business structure you choose will be key in determining how your firm develops. Learn more about your options here

Forming a Business: An Overview of Business Structures

What is a sole trader or partnership?

Sole traders and partnerships share many features in common. In fact, the only significant difference between them is ownership and liability is split amongst multiple people in a partnership situation. Like with a limited company, there are a few key features.

First off with personal liability, you (and any partners) are personally liable for all the business’ debts. So if your business goes under, you will be forced to pay – and as there is no limit to your liability, you may well be made be bankrupt. In a partnership, you are all equally liable for the company’s debts; and if one partner cannot fulfil their obligations the others may have to pay his or her share.

Also as a sole trader, you personally own all the assets belonging to the business. In a partnership, ownership is split along the lines drawn up in the Partnership Agreement (see below).

You have to pay personal income tax on any profits the business makes – even if you do not personally draw any takings from the business. You also have to pay your own National Insurance and your bill may well be lower than if you were an employee of a limited company; ask your financial adviser for help with this.

Finally in a partnership, you normally agree how the business is run in a formal document (Partnership Agreement). This will cover matters including how you add or remove partners, how and when you take holidays and so on.

 

What is a Limited Liability Partnership?

In addition to the ‘classic’ partnership situation, there is another kind of structure available, known as a ‘limited liability partnership’ (or LLP for short).  This limits your personal liability in much the same way as a registered company.

You must register at Companies House. As it is a legal entity in itself, you must go through the Companies House registration process to register an LLP, in much the same way as a limited company. Partnerships are somewhat more flexible in their business structure than limited companies, but you still gain the benefit of limiting your personal liability.

In regards to income tax, members of an LLP are considered self-employed, and pay income tax in the same way as if they were in a regular partnership, and with red tape – like registered companies, LLPs are subject to a number of filing and red tape requirements, such as the requirement to prepare and file annual accounts.

Finally with trade associations, some may have special conditions that apply when you register an LLP in the sector; check with your own trade association for guidance.

What should I consider when choosing a business name?

There are various legal restrictions to consider choosing a name for your business, depending on which structure you adopt:

For instance limited companies can trade under their own name or an alternative trading name – providing that the registered name and limited liability of the business is made clear; and partnerships can do business as a combination of the partners’ names or an alternative name.

Sole traders can trade under their own name – if you wish to use an alternative name you must clearly indicate your sole trader status on your stationery (for example ‘Joe Bloggs SoleTrader’ or ‘Joe Bloggs trading as Joe Bloggs Plumbers’)

In addition, there are some business names you are not allowed to use. Names that are restricted include the same as or similar name as another company. Check the Companies House register to check if there is a business with a similar name operating in a similar sector to you; bear in mind that this search does not take in sole traders or partnerships. In addition, you should check if there is a trademark conflict between your proposed name and another registered trademark; carry out a basic search for marks on the IPO website.

Misleading names are also restricted, such as names which suggest false information about the legal status of a company (using Inc. for a non-registered company, for example), are not allowed. Words such as ‘International’ or ‘Worldwide’ may need to be justified with evidence, so don’t use them unless you are actually trading internationally.

Some words are restricted or prohibited altogether, so you can’t have a business names with these or you need to get the approval of the relevant professional body before using them. Examples include ‘Assurance’, ‘Royal’, and ‘British’ (if it is used as the first word in a name).

Finally accents, ligatures or diacritics are prohibited as it makes you more difficult to search for in public company databases.

Are there any other legal requirements I should be aware of?

Setting up a business is fraught with legal requirements, and there are far too many to go into detail here. However, as a starting point, you should ask yourself if you need a licence and insurance.

If you run a business such as a pub or nursery, you need an additional licence to do so, so check whether this applies to your line of work. Also employers’ liability insurance is compulsory for directors of limited companies, even if you are the sole employee.

Make sure you check what your tax and VAT obligations are. You have to register for VAT if you make more than £82,000 in sales over a year (for 2015/16), or if you expect to. Notify the Department for Work and Pensions and the HMRC when you start trading. Getting advice from an accountant is strongly recommended. Also check if you need to register with Pay-As-You-Earn (PAYE). If you take on an employee, or you are paid a salary by your own company, you need to register with HMRC for PAYE contributions. Read this guide to getting started.

How do I agree what the business is going to look like?

If you are setting up a business with co-founders or partners, you need to agree on a common path forward to ensure you are on the same page and to avoid disagreements in the future. This can be enshrined in a formal document or agreement (normally Articles of Association or a Partnership Agreement).

Some key questions to ask are why do we want to start a business? Don’t assume everyone shares the same motivations as you. Be honest and frank with each other about what you want to get from the business – is it more for short-term personal gain or a longer-term strategy?

Also how will you manage your finances and rewarding employees. Finance is the most contentious issue, this will cover how the business will be financed, different partners’ contribution and liability (if applicable), and the sharing of any profits.

Try to set out who will have responsibility for what and discuss what you would do in unforeseen scenarios and agree on a loose plan of action. What would you do if you needed to raise more funds? What happens if someone makes an offer for the business?

When setting up a company there are lots of legal and structural issues to consider, and it’s important to think of your business’ future when choosing a formal structure as you may run into difficulties later down the line as your company grows.

For more information and advice on setting up a company, check out our sister site’s forming a company area here.

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