Choosing Your Business Structure

First of all, you will need to decide what sort of business you wish to establish.

There are many types of business - these include franchising, freelancing, online, social enterprising; all of which carry their own pros and cons.

Hopefully our guides to some of these types of business will help you pin down exactly what sort of venture is best suited to you.

Getting this right is important, as you need to play to your strengths and set up the type of business that makes the best use of the skills and knowledge you already have.

This means you have the best chance of making your business a success.

Once you have made this decision, you then need to think about how you are going to structure your business.

There are a handful of ways that you can choose from to structure your new business through Companies House. These include a sole trader, forming a partnership, or either a private limited company or partnership.

It’s wise not to set out as a public limited company, as this will involve you raising significant funds through the stock exchange.

These are the most common methods of structure that are chosen, but there are other options available such as Community Interest Companies and cooperatives should you wish to explore them.

We recommend you start out with the simplest structure your type of business will allow.

For example, if you are setting up an online business, you may want to register as a sole trader, and then move to a different structure as your business scales up and you need to start employing people etc.

1. Sole trader

A majority of new businesses are originally set up as a sole trader – people find it simple, cost-effective and keeps bureaucracy to a minimum.

You do not need to notify Companies House, pay them any fees or deal with any other aspects of incorporating a company such as filling out registration forms and submitting accounts.

The only thing you need to do is inform HMRC that are going to be self-employed.

This allows you to get your business off the ground as quickly as possible, and you can immediately start laying the groundwork.

This includes designing and printing your business cards, setting up your website and advertising yourself to potential clients.

It’s important you register as self-employed as soon as possible; otherwise you could incur fines from the HMRC.

There are 3 ways to do this: online, calling the Newly Self-Employed Hotline or by filling out form CWF1.

The main advantages of being a sole trader are that you get to keep all the profits for yourself (after tax has been deducted) and you can make all the decisions without having to consult or convince your colleagues one way or the other.

You will also find the accounting side of your business is simpler than if you were running a partnership or private limited company.

One of the main disadvantages to running a business on your own is that you are personally liable for any debts you incur. This would not be the case if you set up through Companies House.

You should also bear in mind that you will have to pay 40% tax on your income as soon as it reaches £35,000 or more. This will then rise to 50% when your income exceeds £150,000.

As your business grows, the risks of being a sole trader become more pronounced.

You could end up putting your home and other possessions on the line if you have to borrow substantial amounts of money to expand the business.

If you are sued, you could go bankrupt and lose everything – therefore, it may be sensible to switch to a safer and more stable business structure as soon as your venture has taken off.

If you are unsure which route to take when you set up, an accountant should be able to advise you well.

However, should you choose to start as a sole trader it is very easy to switch to a limited company later.

2. Partnership

This is set up between two or more people who share both the management and the profits. This is a great idea if you want to offer products or services with people that you know very well, and think you could work with on a daily basis.

Partnerships allow responsibilities to be shared, which is particularly helpful if one of you is sick or on holiday.

A partnership carries all the benefits of a sole trader, but means it will be easier to raise finance for your business.

However, bear in mind that should things not work out, it will be more difficult to close down as there is more than one party involved.

There has to be an agreement as to how the liabilities, ownership and profits of the business are split and what happens if one partner wants to leave, which should be enshrined in a partnership agreement. However, the only legal requirement, as with a one-person business, is that each partner is registered as self-employed and puts in a separate tax return.

In a standard partnership, as with sole traders, all partners are also responsible for all the debts owed by the business. This doesn't only apply to debts you have incurred as a partner but to those of any partner, so you need to pay particular care to the conduct of the people you go into business with.

A partnership like this is ‘unlimited', which makes it quite different from a limited liability partnership (LLP), which we cover later on. However, in both cases your share of the profit will be taxed as income.

3. Limited Liable Company

Incorporating means registering a limited company or LLP at Companies House. This will make your business more reputable, but may also make it easier to borrow money if you need to. However, it's important to remember that while you may like the idea of being a Managing Director, you will still have to deal with the task of year-end accounts.

Once you register at Companies House as a private limited company you are letting yourself in for more administration. But it is not as daunting as it used to be – these days you can be the sole shareholder and director, and act as company secretary too (although appointing a company secretary is no longer a legal requirement).

Most private limited companies are owned by their shareholders and are limited by shares. This means that the face value of their share in the business is the most they can be called on to pay if things go wrong.

The great advantage of limited liability is that you can control your exposure to financial risk. There's a firewall between your money and the company's. This is because a limited company is a separate legal entity to the company directors, therefore it is the business itself that shoulders the financial liability if the business goes under. Your home, your family and your lifestyle are protected.

The tax prgoramme is more favourable to a registered company than to a sole trader. Limited companies pay corporation tax on their profits and their company directors are taxed as employees in the same way as other people who work for the company. The UK small profits corporation tax rate, applied up to £300,000, is 20% for the corporation tax year beginning 1 April 2020 and 21% above this (different rates apply to different financial years). It's important to realise that in a limited company profit, you will also have to pay income tax on the salary the business pays you.

Once you are trading, you will be required to submit full statutory accounts and a company tax return to HMRC each year, as well as making monthly or quarterly payments of employees' income tax (PAYE) and NICs.

You will also have to file statutory accounts and an annual return to Companies House, although small and medium-sized companies (with a turnover of less than £5.6m) can submit an abbreviated version. Here is a handy checklist to help you keep on top of your tax and accounts.

Before you can start trading, you need to officially register your limited company, decide on the company officers and choose a name for your business. Then, once you've filed the correct documents with Companies House, you are ready to go.

4. Limited Liability Partnership

LLPs are the UK's newest business structure that are particularly suited to professional services companies.

It carries the advantages of both limited companies and partnerships, in that they offer the limited liability available to limited company shareholders combined with the tax programme and flexibility available to partnerships.

The number of partners is not limited but at least two have to be ‘designated members' responsible for filing annual accounts. All must declare their income, and your business must start trading within a year of registration, or it will be struck off.

Just as with a limited company the LLP model protects its members' assets, limiting their liability to however much they have invested in the business and any personal guarantees they may have given when raising loans. But it doesn't give you the same tax advantage.

As in an ordinary partnership, the members' share of profit is taxed as income – each member has to register with HMRC as self-employed. LLPs also have to register at Companies House and there should be a members' agreement stating what share of the profit each member should receive.

If the business you are starting is in the financial services space, for example, and you are hoping to grow it by attracting other professionals to join you it may be worth considering an LLP from the beginning. It has been adopted by some of the largest accountancy and law practices in the UK, as well as doctors, architects and retailers.

Further information

For more tips and advice on starting a business and entrepreneurship, please see: