Company formats and business structures explained

A businesses legal structure determines who makes the management decisions, how much tax you'll pay, what records you need to keep, who has financial liability for the business and how you raise money.

In short, make sure you register under the right structure and company format; get it wrong, and it could be an expensive and complicated mistake to rectify. If you are in any doubt, speak to a solicitor for advice. Read up on each company format and buisness structures explained in more depth below, or take a look at our business planning articles for further information on company formats and structures.

Sole traders

Sole traders make up a huge proportion of businesses in the UK. They are typically self-funded, one-person enterprises working from home, or out of a van, without any employees.

Registering as a sole trader gives you the independence and freedom to run your business how you want, without red tape, or having to file accounts with Companies House. However, it does mean you don't have the support of a partner, or board of directors, to share the decisions with.

The business owner, and the business itself, become the same legal entity - which means you are legally and financially responsible for the business. If it runs into trouble, so do you.

As the business owner, you keep all the profits. You will then pay tax and fixed-rate Class 2 and 4 National Insurance contributions (NICs) on those profits and fill in a yearly self-assessment tax return.

You can raise finance from bank loans or personal assets, but you will be responsible for ensuring those loans are paid off. Check out this article on how to fund a new business.

Partnerships

Running a business can be a lonely thing to do, particularly during the tough times. Registering as a partnership allows you to share costs, responsibilities and risks with another person.

In return, you'll have someone to support you, and help you make the important decisions. Like a sole trader, all partners will need to register as self-employed. Partners make all the management decisions without interference from a board of directors.

Make sure your partners are completely trustworthy: all partners are equally financially responsible for all debts incurred by the business.

This means, if the business runs into trouble, creditors can claim personal assets from you to pay off debts. Even if those debts are incurred by another partner. And even if you invested less than another partner.

It's up to the partners what share of the profits they take, but both the partnership and each individual partner will need to fill in a self-assessment tax return and return it to HMRC. You will be required to pay taxes on your share of the profits, as well as Class 2 and 4 NICs.

Limited companies

Limited companies and their owners are separate legal entities, which means while you are responsible for the business, you won't incur losses if it runs into trouble. Read this article on whether to register as a sole trader of limited company.

Once you register a limited company, you become an employee and a shareholder. The owners can then draw a salary as well as dividends. Depending on how you structure this, it can be more tax-efficient than a sole tradership, where the owners keep the profits.

Owners of limited companies and LLPs are not legally or financially responsible for the partnership. If something goes wrong, creditors can seize assets from the business but not from its owners - unless you have secured a loan against personal assets.

Limited companies and must be incorporated at Companies House and must have at least one director. You will then need to undergo an annual audit and file your accounts with Companies House each year.

As a director of the company, you will pay income tax on the salary you draw as well as being taxed on any dividends you take. You will also pay Class 1 NICs. The company itself will be expected to pay corporation tax.

Limited liability partnerships (LLPs)

LLPs limit the amount of liability its partners have for the company to the amount they have invested in it, which means creditors can only seize the business' assets, rather than partners' personal assets if the business runs into trouble.

You can register as many partners as you like, but each partner must register as self-employed and, as with an ordinary partnership, you will have to fill out a self-assessment tax return for the partnership as a whole, as well as for each partner.

Unlike an ordinary partnership, an LLP must register two designated members with Companies House. Designated members are responsible for appointing an auditor, signing and delivering accounts to the Registrar; notifying the registrar of changes to the partnership; delivering the annual return and 'acting on behalf' of the LLP if it is wound-up or dissolved. If one of the designated members leaves, the rest of the partners are automatically deemed to be designated members.

LLPs must be incorporated at Companies House, undergo an annual audit and file their accounts with Companies House each year.

Franchises

Franchising is the most low-risk way of starting a business, and is ideal for those who don't have a clear business idea. Franchising involves one company granting another, a license to sell their product or service. It is common that you have to pay for this license and go through a series of interviews before it is granted to you.

The franchisee (the individual who is granted the license) is usually placed under strict restrictions. The industry of franchising itself is very lucrative, employing upwards of 600,000 people in the UK. There are multiple types of franchising, the most popular of which is business format franchising where the franchiser grants people to sell a product under their trade name, but retain control of the business.

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