Best Business Blog

To incorporate or not?

This is the one question that constantly arises from traders, about whether or not they should operate their business as a soletradership, or as a limited company.

Like all decisions in life there are plusses and minuses, and NO right answer.

There are a myriad of issues in respect of commercial reality, tax mitigation, perception to customers and suppliers, and the feel good factor.

Some individuals wish to trade under the guise of a limited company to give an indication they are bigger than actual, others do it to protect themselves against a customer going “belly up”, some do it to control the amount of personal tax they pay, and others do it to offload income to their spouse (ie the spouse is merely a tax write off).
Always remember that if money is owed to the bank, the bank requires personal guarantees, so personal liability is still in place,  the only difference is the tax man and other suppliers can be told to “go and hoke” (subject to certain items such as employers national insurance etc)

The general rule is that you incorporate your business under the following circumstances:

1.    If you can be in a position to control your extractions from the company. E.g. pay yourself a smallish salary, and take the rest out as dividends, and pay no tax thereon (unless you reach high rate tax, even so you avoid Employers NIC)
2.    Actually have a supplier base, and customer base, that the company is seen as trading, and not just an individual offering his time as services (lok up IR35 on your favourite search engine)
3.    If you have a wish (under current legislation) to develop your business and then sell it in a few years. (to avail of 10% tax rate on disposal)
4.    If your net profit is over 50k per annum, and you are happy to live on less money, and pay tax at 20% instead of 40%
5.    If you may have a concentration of income on a customer  who may go belly up, and leave you with an inability to meet your debts
6.    If you wish to do something hookey, and if  caught, you can walk away from Revenue and Customs (false invoicing and fraud aside)

There is no correct answer, and bottom line is that if you speak to your accountant in the same way as you would speak to your doctor (ie openly and honestly), he/she can advise you on whether or not to incorporate.

A recent practical example were two people in the same industry (electrical installation), where one clients customer base was domestic, the other was commercial.

Both businesses were making the same level of profits, but :

1.    One business owner had his mortgage paid off, the other was working to pay his mortgage.
2.    One business owner  was mid twenties, the other was early fifties.
3.    One business had top 25 customers of £20k per annum each, the other had turnover customers of £400 each
4.    One was married, the other was divorced
5.    One had children, the other had suspicions
6.    One business owned their premises the other had a 10 year lease without break clauses
7.    One had an attitude like Del Boy, the other was a saint

The above are merely 7 differences in two identical businesses, so for the mathematically oriented there are 2 to the power of 7 permutations, ie 128 different answers whether or not to incorporate.

In this example I have restricted the options to seven to make a point.  In  real life, the number of possible differences is exponentially greater,  and hence it is important for the accountant to “know thy client”, both in current terms, and in aspirations.

There is one downside.  Tax laws are constantly changing.  4 years ago,. It was possible for a person to earn 30k per annum, and personally pay NO tax, and NO national insurance personally, but for their company to pay around 3 ½ k to Her Majesty Revenue.  Ie a tax rate of under 12%, but the chancellor realised he was a silly boy, and changed the rules. Its just a pity the government have no sense of humour.  They’d be a lot more popular.

If you are a start up or an existing business, getting the money right is the difference between success and failure. One of the main reasons a business fails is due to poor or inadequate funding.

When you go into business, one of your aims is to grow and be a success and getting the right finance in place is all part of that. The first step then is preparing a business plan that the bank will like and get all the relevant information from. Your business plan should map out the direction you intend heading in and how you are going to make it happen.

Most plans should include a summary of your business and have a cv included in it that explains your experience in that particular field. So point one then is a summary of your qualifications and experience. Point two, competition, who they are, what they are doing and how you will fit into this market and make more money than them, or how you will be different from them. Point three is the old marketing plan, and don’t worry it’s not a dirty word, there is lots of information stored on this thing called the internet, which helps you to write a corker of one. You need to list achievable targets, pie in the sky will be seen through and the lenders will stop reading it at this point, and point four, the financials.

Ok so what in particular do they want to read about money wise. Well if you are a start up it’s a good idea to make your cashflow forecast for a minimum of three years as this shows your commitment to the business and gives them confidence that you believe in yourself. You also need to show that the loan you are seeking, can be repaid and when it can be repaid by. After all, when you lend money to people, you do so on the understanding of when and how you are getting it back. The lender will also like to know about already existing outlays finance wise, ie do you have any other loans personal or otherwise, how much for and how long is left to pay on them. It’s a mistake to think you don’t have to disclose this information, hide something from them and again lenders will switch off from your plan.

You also need to show them how the money will be used and what difference it will make to your company. And don’t forget, the lenders/banks, like to see some commitment from you. After all, if you don’t believe in your business why should they? You need to show that not only do you put time and effort in to it, but also your own money. You will score big brownie points if you can do this.

Now the bit that worries some, the disclosure of personal credit history. If you have no issues with it, brilliant, enjoy, but if you have some blots on your record, tell them before they find out. Explain to them what happened and why it happened, better this way than them feeling you are hiding something from them.

So then in summary, keep it simple, don’t go overboard on the presentation, and most importantly of all, be honest and be realistic.