The Federation of Small Businesses recently reported that compared with 2018, the number of small businesses increased by 3.5% with over 200,000 more businesses in operation at the start of 2019. It is important for entrepreneurs and small business owners to get the right legal advice and start-up information, to manage risks and avoid pitfalls when starting up a business. In the enthusiasm to start operating, these key elements can sometimes be overlooked.
Since small businesses make up 99.3% of total business in the UK, we are often asked what the best structure for a new business, partnership or private limited company is. There is no right or wrong answer but here are some of the pros and cons to each.
A partnership requires no written agreement (even if it is advisable) and there is no registration process to go through. All financial information remains private.
However, with a limited company, there is a formal registration process with Companies House under the Companies Act and the need to file an annual confirmation statement. Accounts/financial statements also have to be filed and are open to public inspection.
Profits and losses
All profits and losses belong to the partners who are taxed individually on their income from the partnership. If the partnership can’t pay its debts, then creditors can pursue the individual partners and their personal assets.
With a limited company, the profits or losses belong to the company not the shareholders or directors. But if the company can’t pay its debts the creditors cannot pursue the shareholders for the company’s debts because their liability is limited to the amount they paid for their shares. Their personal assets are not at risk unless they have offered personal guarantees to any creditors.
The ability to attract outside investment is limited in a partnership because there is no defined portable interest which can be sold to the investor to represent his investment.
In a limited company, existing shares can be sold to an investor or new shares can be issued.
Partnership borrowing will again be in the names of and at the personal risk of the partners to the business.
Borrowing by a limited company in theory gives the shareholders the benefit of limited liability. But in practice, this benefit can be illusory as banks will often require director shareholders to give personal guarantees for the liabilities of the company- particularly where the assets of the company are not sufficient to cover the amount of the loan facility.
Which is best for you?
There is no simple answer to this and it will depend on several factors including the nature of the business, the initial capital required and your attitude to risk. It is essential to take legal advice at the outset.
For information and advice on starting your own business, partnership, or limited company, click here, or contact the Commercial team at PowellsLaw.