Types Of Business Structure

A business structure is a very important category information of an organization. The structure of business impacts on the taxes, legal documentation, personal liability and the capability to raise money.

The business form is legally recognized in a particular dominion and labelled by the legal definition of that particular category.

Business establishments come in different types and different forms of ownership. It is very important to decide the correct Business form when you are ready to start a new business. Few forms of Business structures common in the UK are:

Sole Trader/Proprietor

A sole proprietorship is owned by only one individual. It is easy to set-up and offers full control only to the owner. It is the least costly amongst all forms of business ownership known.

The owner does receive all profits but is also personally liable for the financial commitments and debts of the business. He faces unlimited liability which means that the creditors may go after the personal assets of the owner if the business fails to pay them.

The sole proprietorship form is typically embraced by small business entities.

A sole trader in the UK must register with HM Revenue & Customs as soon as possible or can be penalized if failed to register before 5^th October of the second tax year of the business.

Pros

• Control: Sole traders has the full control of their business as they are the owners.
• Profit: They retain all of the business profits.
• Privacy: their data is their own, kept private unlikely the LLC.
• Customized: Sole traders are a relatively small business, so they can offer customized services.

Cons

• Liable: They are the owners of the business, so they have unlimited liability.
• Decisions: Success or failure rest upon the decisions of the sole trader, as he is the only one in control.

Example: Kurt Geiger is a very successful sole trader based in the UK. Started the business in 1963, Kurt Geiger has continuously evolved in making covetable footwear and accessories. Kurt Geiger has over 70 stores globally and over 170 concessions within the world’s most prestigious department stores.

Independent Contractors

A Contractor is also an individual just like the sole trader. He is someone who is working for someone else but is not an employee. Independent contractor provides the services for money under a contract.

A contractor is usually highly skilled and can be a resourceful professional, creative person, technical Consultant, agents, brokers or freelancers.

UK’s Independent contractors should follow the IR35 tax legislation. It was announced in 2000 to catch ‘disguised employees’ and put on income tax and National Insurance Contributions (NICs) to the independent contractors’ income as if they are employees.

Pros

• Control: They are their own boss. Provides services to others on their own terms.
• Flexible Earning: They charge on every single contract. So may earn more than other fixed employees.
• Tax saving: They turn out to pay less income tax then compared to business owners.
• Liability: They are not liable for any losses of the business they work for.
• Freedom of choice: Contractors enjoy being able to choose their projects and clients.
• Holidays: They are free to choose how much time they need between contracts, hence no constraints on vacation time.

Cons

• No benefits: They don’t get any benefits from the employer as they are their own boss.
• No Protection: The labour laws do not protect Contractors.
• Payment: independent contractors do not always receive payments on time. Also, they are paid only when they have a contract.
• Limited Job Security: They do not have a fixed-job. Most contracts stay for a short time. Then the contractors need to look out for another job.

Partnership

If the business is owned by several individuals, it is considered as a Partnership.

A partnership can be classified as:

General partnership

The general partners manage the business, take responsibility for the debts.

Limited partnerships

The general partners manage the business and take responsibility for the debts. But, they have limited partners too, who serve only as investors.

Like sole traders, partners also pay taxes only on their profits. A partnership tax return should be filled by the nominated partner. Each partner files a self-assessment tax return and pays tax and National Insurance.

Pros

• Shared Responsibility:  The partners share the business and so the responsibility is also shared among the partners.
• Capital:  The partners fund the business. So more partners mean more investment and more growth.
• Decision: Partners share the decision making and it’s not a one man’s brain in the business.
• Documentation: Partnership need only the agreement between the partners. It doesn’t need to maintain complex documents like an LLC.

Cons

1. Liability: Ordinary partners have unlimited liability which means that they share the financial risk of the business.
2. Disagreement: A partnership firm mostly dissolves when there is a disagreement between the partners. The disputes harm the business as well as the personal relation between the partners.
3. Profit:  The profit is equally shared amongst the partners, which is not fair if one partner is putting more effort than another.

Example: NotOnTheHighStreet.com

Founded by two award-winning entrepreneurs, Holly Tucker and Sophie Cornish in 2006. It has become the most successful e-commerce businesses in the UK. It has a team of over 200 people and sales of over £100m

Limited liability company (LLC)

It is a type of business which is incorporated at Companies House as a legal person. It is separate from its owners. The company is responsible for its own income, assets, debts and liabilities.  

A Company is run by the management, which consists of the directors and the Shareholders. The director/s manages the business whereas the shareholders get the business funded. The management has limited liability and they are responsible only for business debts up to the worth of their investments.

LLC can be further classified as:

Limited by shares 

Owned by one or more shareholders. The financial liability of shareholders is limited to the value of their shares. If a company is incapable to pay its bills, shareholders are obligatory to contribute the nominal value of their shares. Profits are distributed to shareholders as per their shares. These profits are issued as dividend payments. Directors are appointed to manage day-to-day business activities on their behalf. The shareholders can appoint themselves as directors.

Limited by guarantee

Owned by one or more guarantors. A guarantor’s liability is limited to a fixed amount of money called guarantee. Directors are appointed to manage day-to-day business activities on their behalf. The guarantors can appoint themselves as directors. The profits are not distributed amongst the guarantors.

Pros

1. Limited Liability: The shareholders are liable for the debt only according to the level of their investment. This is financial security for the investors.
2. Entity: the company and the Shareholders are separate entities. Even if a shareholder dies, the company continues to exist.
3. Tax relief: LLCs are taxed only on their profits.
4. Control: The control is in the hands of the Board of directors. They take combined decisions.

Cons

1. Costly: A company is bigger than a Sole trader. It is more expensive to set-up.
2. Complex accounts: LLC is expected to keep and maintain documents and records. This is time-consuming and costly.
3. The weakening of Power: Sometimes disputes arise between directors and shareholders.
4. Risk of Overtake: LLCs can be overtaken, acquired or merged. There is always a risk that the LLC might be acquired from the founding shareholder/s.

Example: Ladbrokes Coral Acquisition:

Ladbrokes Coral Group plc was a British-based betting and gambling company based in London. In March 2018, it was acquired by GVC Holdings PLC, one of the world’s largest sports betting and gaming groups. After the acquisition, GVC Holdings become the UK’s largest high street bookmaker, adding iconic retail and online gaming brands, Ladbrokes, Coral and Gala to their portfolio.

Basic comparison between the forms of business

	Contractor	Sole Trader	Partnership	Limited Company
Entity	Contractor works on his own.	The sole trader is the business.	The partnership is the business	The business is a separate legal entity
Owner	He works for someone else but he is not an employee	Owned and operated by Single person	Owned and operated by Partners	Hybrid Structure with Directors, Shareholders, etc.
Manager	He manages the business	The sole trader manages the business	Partners manage the business	Provides service as an officer (director)
Liability	Contractor has no liabilities but they have legal contracts	Unlimited  liability: Creditors can attack the owner’s personal assets to collect debt	Creditors can go after the partners to collect debt	LLC assets are used to pay off all the business debts. The shareholders stand to lose only the money that they’ve invested in the LLC.
Death	Death of a contractor dissolves the business	Dissolves when owner dies or is passed to the next heir	The other partner/s carries on the business on the death of one partner.	Company does not dissolve on the death of a shareholder. It is a separate legal entity.
profits	Contractor is paid for his services. He does not have a fix salary / profit.	Owner can withdraw cash from business without any tax effect. It is his own money	The profit after business deductions is shared among partners.	Shareholders receive dividends (out of Company profits) on their money invested. They also gets certain distribution by company.
Loss	There are no such trading losses. He gets paid on each service provided.	Trading losses can be compensated against owner’s other income.	The Loss after business deductions is shared among partners.	Company’s Trading losses can be compensated against company’s other income, not the shareholder’s.
Borrowing money from business	The money is contractor’s own money.	Business money is owners own money, so money can be borrowed	A partner can take a loan from Partnership firm.	Directors can borrow limited money from Company with specific tax costs.
Failure	Overexpansion or getting more contracts at a time may result into failure.	If business fails, owner goes bankrupt and is personally liable for debts	If business fails, the general partners are liable for debts	If company fails, Shareholder is liable for his part of shares. But the guarantor is liable for the personal guarantee given to Banks/ creditors.
Documentation	Records of services and expenses,  Contract	Records of Business sales and expenses	partnership agreement General records of sales and expenses	Articles of Organization LLC Operating Agreement
Accounts	Minimum annual accounts required to file owner’s personal tax return	Minimum annual accounts required to file owner’s personal tax return	General partnership needs minimum accounts like sole proprietor, but limited partnership needs to file with Companies house	HMRC needs full accounts for Corporation Tax, so annual accounts must be prepared under the provisions of the Companies Act.
Business Sale	Contractor can sale his personal assets and pay personal tax on gains.	Owner can sale his business and assets and pay personal tax on the gains.	Business assets can be sold according to the partnership agreement	Double tax is paid if the business is sold: Company pays Corporation tax on profits and shareholders pay tax on the distribution.
Taxation	Pays personal tax Follows the IR35 tax legislation.	Pays Class 2 and 4 National Insurance and Income Tax on all taxable business profits.	A nominated partner takes care of tax returns and business records. Every partner pays their self-taxation as an individual.	LLC pays corporation tax on all its taxable profits. Directors pay tax on their earnings. Shareholders pay tax on dividends and certain distribution by company.

Conclusion

There are different forms of business structures to choose from. Different business circumstances require different forms of business organization. No single form is the best form. Selecting the right structure is a key in business growth. The vital point for each person or a group of persons is that they consider going into business and which of the forms will work best for their specific situation. The knowledge of the organizational forms can affect liability exposure. The founders can implement the correct organization for their specific business with detailed organizational structure knowledge.