Setting up Your Business – Part 2

Last week’s Setting Up Your Business – Part 1, reviewed two potential options for your new set ups business structure. After assessing if Sole Trader and/or Partnership is right for you, if you feel that you are ready for something larger, a Limited Company might be right for you, this weeks installment will run through the basics to help you make the right choice for you.

A Limited Company is an entity in its own right and is responsible for everything that it does. Its finances are kept separate to your own personal finances.

A Limited Company is operated by Directors who are responsible for running the Company in the best interests of the shareholders. The Directors may also be shareholders.

As a director of a limited company, you must:

  • try to make the company a success, using your skills, experience and judgment
  • follow the company’s rules, shown in its articles of association
  • make decisions for the benefit of the company, not yourself
  • tell other shareholders if you might personally benefit from a transaction the company makes
  • keep company records and report changes to Companies House and H.M. Revenue and Customs (HMRC)
  • make sure the company’s accounts are a ‘true and fair view’ of the business’ finances
  • file your accounts with Companies House and your Company Tax Return with HMRC
  • pay Corporation Tax
  • register for Self-Assessmentand send a personal Self-Assessment tax return every year – unless it’s a non-profit organisation (eg a charity) and you didn’t get any pay or benefits, like a company car

You can hire other people to manage some of these things day-to-day such as a Certified or Chartered Accountant, but you’re still legally responsible for your company’s records, accounts and performance. You may be personally liable for your company’s business liabilities and be fined, prosecuted or disqualified as a company director if you do not follow the rules.

There are three ways in which you can draw money from a Limited Company:

Salary, expenses and benefits

The Limited Company can register as an employer and you can then draw a Salary from the Company. You will pay Income tax and National Insurance in the same way as any other employee however, as a Director you can defer your National Insurance Contribution deductions until your actual salary reaches the annual threshold. The Company will also pay employers contributions to HMRC with respect to your salary.

Reasonable expenses incurred wholly and exclusively in the course of the running of the business can also be claimed from the Company.

If you or an employee of the Company uses items owned by the Company personally then this must be reported as a benefit received and may also be subject to income tax. There are also some benefits that are ‘tax free’ for the employee however each one is subject to specific rules:

  • Workplace car parking
  • Pension contributions
  • One mobile phone
  • Staff parties (costing up to £150 per head)
  • Qualifying child care (basic rate tax relief only)
  • Relocation costs
  • Relevant training
  • Bicycles
  • Long-service awards
  • In-house gyms and sports facilities
  • Cheap/free canteen meals
  • Gifts unconnected with work (e.g. wedding gifts)
  • Electric cars
  • Business mileage payments
  • Work and safety clothes
  • Overnight expenses if away on business

In addition to the tax free benefits, further savings can be made. With many benefits-in-kind, the employee has to pay Income Tax at the usual rates and the employer has to pay National Insurance at but there is no employee’s National Insurance. Most benefits-in-kind will therefore provide a saving with respect to employee’s National Insurance. For a basic rate tax payer this is an attractive prospect. These types of benefits would include things such as paying for an employee’s gym membership.

Dividends

If your Company makes a profit, then the shareholders can be paid Dividends. The first £5,000 of dividend income in each tax year will be tax-free. Sums above that will be taxed at 7.5 per cent for basic-rate taxpayers, 32.5 per cent for higher-rate taxpayers and 38.1 per cent for additional-rate taxpayers. The new tax came into effect on April 6, 2016. No tax will be deducted at source and taxpayers must use self-assessment to pay any tax due.

Directors Loans

If you draw more money from the Company that you have put into it then this would be classified as a Directors Loan. If your company makes directors’ loans, you must keep records of them. You may have to pay tax on director’s loans. Your company may also have to pay tax if you’re a shareholder (sometimes called a ‘participator’) as well as a director. Your personal and company tax responsibilities depend on how the loan is settled. You also need to check if you have extra tax responsibilities if:

  • the loan was more than £10,000 (£5,000 in 2013-14)
  • you paid your company interest on the loan below the official rate

After reading this two part summary of the potential business structures available to you, you will note that there are pros and cons each structure and what may be right for one start up may not be fit for another. Discussing your options with an Accountant will help you to make the best decision for you. You can view our Choosing Your Accountant article from the beginning of the month if you don’t already have one selected. Don’t forget, if you are a contractor, then you might need to deal with a specialist firm of Accountants for Contractors as there are also other considerations (we provided more details about this in Part 1 if you’ve only just joined us).

The Transition from Employment to Self-Employed 

Starting a business

In recent years, more and more people are starting businesses or becoming self-employed with a variety of motivations. For some it is lack of availability of suitable work, others seek the flexibility that regular employment fails to offer and others who feel it is the only way to do the type work they really want to. In April 2012 the Office for National Statistics recorded an increase in the number of Self Employed works of 84,000 within a three-month period which is the highest rise since records began in 1992. At that time there were 4.2 million people in Self Employment. By 2014 15% of the workforce were Self Employed bringing the total up to a new record high of 4.6 million. In addition, the number of self-employed people aged 65 and over has more than doubled in the past five years.

Self-employment or starting your own business can be a way of using your knowledge and skills to earn money or turn a hobby or passion into a way of life. It also allows you to work flexibly and decide on your workload. For example, you may choose to work part-time or only during certain times of the year, if your venture is solid and bringing in enough income part time then you will most likely consider leaving your existing employment to focus full time on your Self Employed business.

Important things to consider

If you’re thinking about becoming self-employed or starting your own business, there are some important things to consider, especially if your aim is to leave your current employment.

1. Creating a business plan

This should have a careful estimate of anticipated income and expenditure over the first years of your business, based on your market research. You will need this if you have to seek a loan for your start-up costs and it will also be exceptionally useful as a reference point when deciding how best to structure your business, for example, as an employee you pay income tax and National Insurance as a deduction from your wage or salary, when you begin working for yourself you will then need to correctly calculate any tax due and you are then responsible for paying this to H.M. Revenue and Customs. Failure to correctly calculate, report and pay any tax due on time can, and will, result in penalties and surcharges being levied against you. You may consider at this early stage to seek the advice of a reputable Certified or Chartered Accountant who will be able to look at your personal circumstances to ensure you start on the right foot.

2. Financing your business

If you need to borrow money for your start-up costs, consider how much you require and where you will get it from. Banks may not be willing to lend money if you have a poor or no credit rating, or you have no collateral. This may not be an issue in the early days if your Self Employed work is on a part time basis and your current employment can support your day to day expenditure as well as your living costs, however, you will need to clearly evaluate the cash flow of your business before you hand in your notice.

3. Checking taxes and benefits

Make sure you seek advice about how becoming self-employed or starting your own business will affect your taxes and any benefits you receive.

4. Decide upon the structure of your business

Having found yourself an appropriate Accountant make sure you seek advice about the best legal structure for your business. There are many possibilities however the most common one is Self Employed, usually one person working for themselves. As a Self Employed person you own 100% of the profits within your business and are responsible for 100% of the tax payable on those profits even if they remain in the business bank account. If you are starting a business with one or more other people you may choose to structure it as a partnership. It is important to agree the management terms of the business with respect to the percentage split of profits, level of personal drawings and who is responsible for what. This is usually set out within a partnership agreement. When partnership accounts are drawn up the profits are divided between the partners and you will then be responsible for tax upon your share of those profits. Finally, you may decide to incorporate your business and trade as a Limited Company either alone or with others. This can often be highly tax efficient as a Limited Company is an entity in its own right. In the case of most smaller Limited Companies you would, as a Director, pay yourself a salary, you may or may not pay tax and National Insurance from this depending upon how much salary you allocate, this can then be ‘topped up’ with Dividends if the Company is within sufficient profit. Dividends for those earning below the higher rate of income tax would be tax free up to £5,000 and thereafter taxed at a lower rate than standard PAYE. The Company itself would pay Corporation Tax on its profits at a rate of 20% and is set to be reduced to 18% by 2020

5. Running your business

Start as you mean to go on! The key to keeping your business compliant is to ensure that you keep good business records. Few people in this day and age rely on complex books and ledgers but rather opt to use solid accounting software. This is a highly competitive market with a vast array of providers all claiming to be the best. In reality, there is no ‘one size fits all’ and it is strongly advised that you try out the demo versions before you commit to a specific package to make sure it suits your requirements.

Some of the key players include xero, quickbooks, freeagent and sage. All run a cloud based offering on a monthly subscription. There are also some good free options such as wave and quickfile.

Once you have all the key information and tools in place you will then be well positioned for the transition from employment to Self-Employment.

FNFBP during Brexit and Political Uncertainty

With Brexit approaching and the current political climate it is unsurprising that more and more people are paying more attention to their finances and thinking about how they can plan ahead for a future that has not yet been mapped out. This is part of the reason why Finance Network for Future Business Professionals has been developed. We wanted to find a way to easily provide those who are invested in their business, or future business plans, with updates in the fields of accounting, tax and insolvency that may have crucial implications in the way their company develops in the years ahead. FNFBP wanted to provide regular news about the current financial and economical playing field to help keep you in the know when it comes to UK finance and your business. Alongside this, it is important to start looking into details of how we can continue to protect the businesses we either work so hard to protect or are investing both financially or personally in during the potentially rocky years ahead.

The clip below from a workshop for Brexit: Banking and Financial Services, gives us some insight into how these areas may be affected by Brexit and give us some interesting things to think about when considering our own business needs.