When you’re starting a business, one of the first questions to consider is which type of legal entity to use. Will you set up as a sole trader, a limited company, a partnership, or something else altogether?
There’s no right or wrong answer to this. The best way to structure your business will depend on the type of business you run, and it might change as you grow over time.
We’ve explained the main three types of business structure, and some of the potential advantages and disadvantages of each.
Sole trader
Working as a sole trader is the simplest way to set up and run a business – you just need to register for self-employment with HMRC to pay tax through self-assessment, and you’ll be ready to start trading.
You will have certain accounting responsibilities, though. You’ll need to keep records of your business’s sales and expenses, and file a self-assessment tax return by 31 January. If your turnover exceeds £85,000, you’ll also need to register for VAT.
Contrary to the name, sole traders can employ staff or hire subcontractors, so the business may consist of more than one person. But as the business owner, you’re solely responsible for running the business and meeting your legal requirements.
With this structure, there’s no distinction between your finances and the business’s. This keeps things simple, but it also means you’re liable for any losses your business makes. For this reason, operating as a sole trader is often suited to businesses that don’t need a huge investment to get started.
Advantages:
- Low-cost, easy setup
- Relatively few accounting responsibilities
- You have full control over business decisions
Disadvantages:
- Unlimited liability for business debts
- May be difficult to secure funding or attract certain clients
Partnership
A standard partnership works in a similar way to a sole trader business, but two or more people share equal responsibility for the business. In this structure, every partner is jointly and personally liable for all business debts.
When you set up a business partnership, you’ll need to choose a business name and a ‘nominated partner’, and register with HMRC. Each partner will need to register as self-employed and complete their own self-assessment tax returns as individuals.
You’ll also need to draw up a written agreement, outlining how liabilities and ownership will work in the partnership, how you’ll split the profits, and what happens if one of you wants to leave.
Advantages:
- Easy setup
- Can be helpful to run the business with other people
Disadvantages:
- Full liability for business debts
- You don’t have complete control – decisions have to be made between partners
- Partnership disagreements may pose a risk to the business
Alternatively, you could choose to set up a limited liability partnership, which has some of the qualities of a company.
Limited company
When you set up a limited company, you’re establishing your business as a separate entity from yourself. This means you won’t be personally liable for all of the business’s debts, as the company’s finances are separate from your own.
For businesses that make a profit, the company will generally be limited by shares. This means it has shareholders, who are liable for debts up to the amount they originally invested in the company.
Your company will need to register for corporation tax, which is paid on any profits at a rate of 19%. You’ll also need to register with Companies House and pay a registration fee.
As a director, you’ll be responsible for running the company on behalf of the shareholders – although you can be both a director and a shareholder. You’ll also have certain record-keeping, administrative and accounting responsibilities.
Advantages:
- Limited liability, meaning lower risk for your personal finances
- May have tax advantages
- Professional image
Disadvantages:
- Some setup costs
- Complex accounting and admin responsibilities
- Not as much privacy – annual accounts and financial reports are placed in public domain
Speak to us about choosing a business structure.