Structuring your new business - what you need to know

If you’re planning on starting up in business for yourself, there are a plethora of things to consider before you start trading - and one of the key points is how you’re actually going to structure your business.   

Well, that’s because the type of structure you choose for your new business will affect its legal status, how much tax it pays and when it needs to pay that tax; and this applies no matter how small your business is.
 
In the UK there are four different alternative business structures: sole trader, partnership, limited liability partnership (LLP for short) and limited company. So which one is right for the kind of business you want to set up? Emily Coltman FCA, Chief Accountant to FreeAgent - who provide the UK’s market-leading online accounting system specifically designed for micro businesses and freelancers - gives the low-down on how each structure works, so you can decide which to choose for your business:     

A sole trader is is the simplest kind of business structure there is, as it means that it’s just you - and you alone - involved in running the business.   To set up as a sole trader you need to register with HMRC first and this can be done by filling in a simple online form. 

You must do this by 5th October after the end of the tax year (which runs from 6th April to 5th April the following year).  Once registered, you must file a tax return every year. If you choose to submit this by paper you must do so by 31st October each year, but if you file online then you have until 31st January to do this.

However, sole traders don’t need to file their accounts anywhere - so, because your tax return is not on the public record, your business figures are kept private. 

 
It’s important to also remember that there’s no legal difference between a sole trader and their business. 

As far as the law is concerned, as a sole trader you are the business; and that means that if someone decides to sue your business it’s you who is personally sued. And in turn, it’s your own assets (such as your car or home) that could potentially be taken to pay the debts.   

Partnerships operate in the same way as a sole trader except for one difference - there is more than one person running the business.   To set up a partnership, you’ll need to register the business first with HMRC. When you do this, you have to nominate one partner to be the one responsible for filing tax returns to HMRC, and it’s that person who must actually register the partnership itself - although the other partner(s) must register themselves as official partners of the business.   

Deadlines for registering and for filing tax returns are the same as for sole traders, but the key difference is that it’s not only the partnership that has to file a tax return; each partner must also file one. So that means there will be at least three tax returns to file each year.   Remember that, just like with sole traders, there’s also no legal difference between the partners and the business; so if the business is sued, or one partner walks away with the partnership’s money or any of its other assets, it’s the other partners who are liable for this. That means that the remaining partners could potentially lose their own personal assets to pay the business’s debts.   

Before registering your partnership, make sure that you draw up a partnership agreement covering important issues like what happens if a partner leaves the business or dies, how much money each partner will put into the business and how much he/she can take out.     

The term “limited liability” is the key part of this business structure - as it means that the partnership is a separate legal entity from the partners themselves, with a legal identity in its own right. This means that the partners’ own assets are protected if the business is sued, unless they have been guilty of wrongdoing or given personal guarantees.

The potential downside of this protection is that it comes with a loss of privacy.  An LLP has to file accounts every year with Companies House, and must also file a document called an annual return which lists the partners (or “members” for an LLP).  These documents are on the public record, so anyone can buy a copy of them if they wish to.

When it comes to tax, an LLP is treated the same as a partnership, so it must be registered with HMRC and each partner must register, and then there are tax returns to file each year. The dates for when these have to be filed are the same as for partnerships and sole traders. 

 

 

The final business structure is a limited company, which is where the company is a separate legal entity from the people who run it (its directors) and those who own it (its shareholders). Running your business through a limited company can often result in a smaller tax and National Insurance bill than for the same business as a sole trader or partnership, which makes it a very popular business structure.   For small companies, the directors will often own all the shares, but even if there is only one director who owns all the shares, the company remains a separate legal entity from that person. This means that it has the same protection of limited liability for the owners’ assets as an LLP but - like an LLP - the downside is having to file accounts and an annual return at Companies House each year.   

Remember that company directors are also subject to legal obligations, so they must not do things like let the company keep trading if it can’t pay its debts, and they must also look after the business’s machinery and other assets. Also, if a company’s costs outweigh its income in its early years, it’s not possible to put those losses against the directors’ other income and claim tax back.  The company will only be able to reduce its tax bill by means of the losses once it starts making a profit.  For all the other business structures, losses in early years can often be used to claim a tax refund against the owners’ other income.   

Getting the business structure right is a vital step to take before you start your venture - and its important to weigh up the advantages and disadvantages of each business structure to decide which best suits your circumstances. If you’re in any doubt about which one will be the best fit your your business, you should speak to a professional tax or business advisor who will be able to help you.