Choosing the right structure for your business – some key points to consider
Whether you’re just starting out, or have been trading for some time, making the appropriate decision on the best legal structure to use should be taken carefully.
The key options one should consider are as follows:
A) Operating as a sole trader
This is often the first choice for many business owners just starting out. This is because it is the simplest and least cost option from an administrative point of view.
When operating as a sole trader, both the business owner and the business are one and the same from a tax and legal standpoint.
That is, the owner receives all the risks and rewards associated with running the business and so is held personally liable for all the debts/is assessed on all the profits at tax time.
For tax purposes, profits made (i.e., sales minus costs) to the 5th of April each year, are assessed via an individual’s annual self-assessment return (to be lodged online by the following 31st January each year).
This income is therefore assessed to be the business owner’s, even if no salary is taken from it directly.
Income tax and National Insurance (Class 2 & 4) are payable according to applicable rates.
Advantages to operating as a sole trader include:
- Ease of set up – there are fewer administrative requirements than operating through the other options.
- Flexibility – because personal finances and business finances are considered to be the same, there are fewer restrictions when drawing down from the business.
- Privacy – sole traders aren’t required to lodge annual accounts (which are made publicly visible) in the same way that limited companies are required to.
- It’s easier to close the business down from an administrative point of view.
B) Operating as a partnership
Partnerships operate in much the same manner as a sole trader except there is more than one owner.
The risks and rewards are distributed between the partners according to the split agreed.
Taxes are paid on the agreed distribution of profit via each partners’ individual self-assessment return.
Key benefits from operating as a partnership are:
- Distribution of responsibility between more than one business owner.
- Flexibility – easier to form than other structures such as LLP’s (Limited Liability Partnerships) and Limited Company. The structure of the partnership itself (e.g., profit distribution) can also be changed easily.
C) Limited Liability Partnership (LLP)
An LLP structure possesses some of the same characteristics as a standard partnership (see above). For example, profits are distributed between the partners involved, and tax is assessed on the profit received by each individual partner (via each partner’s self-assessment return).
However, an LLP provides the additional benefit of limited liability for the partners i.e., losses and responsibilities are limited to what the partners invest, and any personal guarantees put in place.
Benefits/characteristics of LLP structures include:
- The flexibility characteristics that one gets through a standard partnership (i.e., changes to rights, responsibilities etc.).
- Professional image – LLP status can give more of a perceived professional standing.
- It’s easy to appoint new members.
- Potential savings on National Insurance if the only people working for the partnership are the partners themselves i.e., don’t have to register as an employer.
- Ease of decision making - don’t need to have official board meetings/pass resolutions etc. like with a limited company.
D) Limited Company (LTD)
A Ltd Company is different to the other operating structures previously mentioned because the business itself becomes an entity which is considered to be separate from a legal and tax perspective.
Companies House keeps a public register of all companies which have been formed within the UK. Various pieces of information can be seen on the public register.
The company is owned and controlled by shareholders and the business is run and controlled from an operational point of view by the appointed directors.
It is common in small owner managed companies for the appointed directors to also be the shareholders of the company.
The great thing about having share capital is this can be distributed to others when wanting to allocate some to a spouse or an outside investor.
Operating a limited company does require more administration than operating as either a sole trader or a partnership (both traditional and LLP).
Most significantly, annuals accounts and an annual statement need to be lodged each year with Companies House, and a corporation tax return needs to be lodged with HMRC each year.
Benefits of operating through a limited company include:
- Potential tax minimisation. Through having the option to receive a salary and/or a dividend, there are potential tax planning opportunities to minimize tax.
- Risk mitigation – because the business is a separate legal entity, the debts of the business are “ring fenced” away from the owners. This helps to preserve the asset base of the owners by keeping business and personal matters separate. For example, if defaulting on trader creditor debts within the business, the creditor under normal circumstances, would not be able to pursue the owners personally for the loss.
- Prestige – again, like with an LLP, operating via a limited company can bring the perceived benefit of greater professionalism.
- Flexibility – it becomes easier with a limited company to raise funds by issuing new shares to new/existing shareholders.
If you’d like some help with choosing the appropriate structure for your business, get in touch with us today for a commitment free chat on 033 3303 0988 or help@northhillfinance.com.