What is the best company structure for my business?
Deciding on the Best Company Structure
In the UK there are only four options for a company legal structure, and all of them have their advantages and disadvantages. However there are a great number of misconceptions about the relative merits of some of the company types that you can choose for your new business. Company legal structures available to start up businesses in the UK are:-
- Sole Trader
- Partnership
- Limited Liability Partnership (or LLP)
- Limited Company
Rather than go through each structure type in sequence, it may be more helpful to look at the most important aspects for you, based on the area that you expect your business to be trading in, and where you see your business in the future. We’ve listed a set of important aspects, some of which may be less or more important to you, depending upon your business plan:-
- Protection from creditors in the event of failure
- Paying less Tax and National Insurance
- Being in complete control of your business
- Starting a business in partnership with others
- Attracting investment from other organisations or individuals
- Being able to borrow for vehicles, equipment or start up costs
- Keeping your business and earnings private
Obviously, not all of of the above aspects will perfectly match any single business structure.
Protection from Creditors in the Event of Failure
In this aspect there is only one real choice; to be a Limited Company. In this legal structure the ‘company’ is solely responsible for the company’s debt. Only the assets of the company can be sold in the event of bankruptcy. The Directors can keep hold of their personal assets, such as homes or personal vehicles, but any director of a bankrupt company will be barred from being director of any other company for six years.
Note that if you start a new Limited Company, banks and finance providers will likely require that a director acts as a ‘personal guarantor’ for any loan, effectively nullifying your protection.
If you operate as a Sole Trader, you will always be fully liable as an individual, for any debts that your business cannot pay back. Similarly in a Partnership structure, all partners are individually, jointly and severally liable for any debts that the business runs up.
A Limited Liability Partnership (LLP) is a bit of a half-way house. In any LLP there can be any number of ‘Limited Partners’ who are protected from liability in the event of bankruptcy. But, there must also be one ‘General Partner’ who is personally liable for the business debts. So if you are to be the ‘General Partner’ there is no protection for you.
Paying Less Tax and National Insurance
This is an aspect that suffers from popular misconception: Some accountants are keen to tell you that you will pay less tax as a director of a limited company because you can pay yourself a minimal salary but take the company’s profits as dividends. From the narrow viewpoint of a company employee, this is true, but in order for there to be dividends ‘the company’ has to make profits and pay Corporation Tax on those profits. The company also has to pay Employers NI contributions and perhaps also Employers Pension contributions on your behalf.
If you are a director of a large limited company then its relatively easy to separate your own earnings from the company’s costs. But if you’re a small limited company with only one or two directors, then all the company’s money is essentially your own money. In general, self-employed individuals pay less tax than small company directors.
There are many very good reasons to run a small business as a limited company, but paying less tax is not one of them. Please see our article: ‘Who Pays More Tax‘, for more detail.
Being in Complete Control of Your Business
Both a Limited Company and a LLP structure must adhere to regulations set by Companies House (UK Government) and provide detailed accounts information annually. There is also a much higher level of scrutiny applied to Limited Companies and LLPs than for Sole Traders and Partnerships. This generally means more work for your accountant and therefore higher fees. Accountancy fees are typically two or three times more for a limited company than for a self-employed individual.
If you want to have more control but need to form a new business in conjunction with others then a Partnership business structure provides complete control for the partners.
Starting a Business in Conjunction with Other People
The only choice that you do not have is a Sole Trader Business structure. You can have multiple Directors of a Limited Company, multiple Members of Limited Liability Partnership and multiple Partners in a Partnership.
If you are starting a new business in conjunction with other people, we advise that you draw up and sign a formal agreement. For LLPs this agreement is mandatory.
Attracting Investment from Other Organisations or Individuals
If this is a key aspect for your new business then this is most easily accomplished within a Limited Company where it is possible to make any investor a Director and/or a Shareholder. Obviously there would need to be an agreement drawn up to protect all parties. But it is relatively straightforward. Similarly adding a partner to a partnership is straightforward, but there is no formal shareholding, therefore additional agreements would be necessary.
For any business structure other than a Limited Company, it would be difficult for any investor to be able to exercise control over his investment. For other business structures it would be difficult to differentiate between any investment and a straightforward loan, and the investor would have no guarantee of control over his investment.
Being Able to Borrow for Equipment, Vehicles and Startup Costs
This is another aspect that definitely suffers from popular misconception: Having a strong track record of repayment is the most important thing, regardless of your business structure.
Just like individuals, limited companies will have a credit rating, and limited companies also have their accounts published online for all to see. So unless you are a well established limited company with good profits showing in your accounts, it will be more difficult to get bank loans and finance.
Lenders know that if your limited company goes bankrupt, they’re not getting their money back. Whereas they will be able to pursue individuals for any outstanding debt. Basically Sole Traders and Partnerships are a safer bet for lenders.
Note that it is normal practice for company directors to have to give ‘personal guarantees’ to banks and finance lenders, in order to secure loans for their limited company businesses. Obviously, once you personally sign as a ‘Guarantor’ for your own company you are in the same situation as a sole trader and the lender can pursue you personally for any outstanding debt.
Also if at any point you ask a bank to provide finance to any business in difficulty, the bank will seek to secure the loan against some specific asset such as personal property or possessions or equity in a property.
Keeping Your Business and Earnings Private
This is an aspect that is often not considered when starting a new business, but it can have some unforeseen personal consequences. Being a Director in a Limited Company or a Member in a Limited Liability Partnership means that your company accounts are published and available for anybody to view and scrutinise.
So for example, if you apply for a mortgage, any potential lender will likely do a search of your name and address and will find you and your company’s accounts. Somewhere in your accounts will be information about profits. If your company is not making healthy profits, you may be refused. Company directors are basically treated the same way as the self-employed when it comes to mortgages.
There might also be personal or family reasons why you might not want your business information in the public domain.
If privacy is a key aspect for you, then you should consider being a Sole Trader or a Partner in a Partnership, not a Director in a Limited Company or a Member of a Limited Liability Partnership.
Conclusion
There is a lot of information in this post, and there is no simple answer. But we wouldn’t recommend any business structure over any other, without first having a discussion with you about your personal circumstances and your business plan. The reason we’ve highlighted these key aspects is so that you can weigh up what’s most important for you and what is less important.
Please contact me if you need more detailed advice. Or view more articles on the Client Pages.
No matter the structure there are tax registration and legal requirements: Click the link below for HMRC information:-