Chapter 3 (9 exam questions): Legal concepts and considerations relevant to financial advice Flashcards
What is a sole trader?
An individual who solely controls their own business.
They are self-employed and are personally liable for any debts and liabilities accrued by the business
HMRC see the business and person as the same thing
What tax do sole traders pay?
Soletraders pay income tax and CGT
Income tax on profits of the business
CGT on any capital gains made by the business, for example when selling business assets.
Sole trader pay Class 2 NICs at a flat rate. This gives the individual entitlement to various state benefits, such as the single-tier state pension. Paid via HMRC self-assessment
Class 4 which is earnings related is also payable by Sole traders.
Typically, soletraders only pay class 2 and 4 NICs. Do they ever pay class 1 ( what the employed pay )
If the sole trader employs people they will then pay EMPLOYER Class 1 NICs because they will need to deduct income tax and employee Class 1 NICs from the employee’s salary.
Can sole traders employ people?
Yes, but they are typically on there own responsible for all areas of their business
What is a partnership?
Who are partnerships taxed?
The same as sole traders except their is more than 1 individual liable and responsible for the business.
The partnership is NOT a separate legal entity to the business, they are deemed as being the same entity. Each partner is ‘jointly and severally liable’ for the business’ debt.
Each partner is self-employed.
Each partner pays income tax, NICs and capital gains tax, on their share of the business profits. (The tax treatment and deadlines are the same as sole traders)
Why were Limited Liability Partnerships introduced?
All partners in a partnership are ‘jointly and severally liable’ for the business debt.
Because of this, many partners went AWOL, leaving others to pay the debts of the business. Therefore, the limited liability partnership or LLP was introduced
LLP were introduced by The Limited Liability Partnership Act 2000 in 2001
What are limited liability partnerships?
The same as a traditional partnership in terms of tax treatment, profit sharing, and that each partner is self employed, EXCEPT the partners are not liable for the business debts.
The business is its own separate legal entity but is run by the partners
The ONLY liability each partner has is the amount they invest in the LLP
Compare a limited company to a limited liability Partnership
What are limited companies?
Where must companies register?
Companies must have a Memorandum and Articles of Association. What is this?
Limited companies are their own separate legal entity.
The company is liable for its own debts and can only use its own assets to meet its liabilities… nothing else (ie, shareholders and employees can not be made liable)
Companies are registered at Companies House.
Companies must have a Memorandum and Articles of Association. which show who holds what company positions and responsibilities
Can employees of a limited company ever be liable for a limited companies debts?
Typically no because limited companies are their own separate legal entity.
However, employees can be liable for the debts if they are proven to have acted unlawfully, for example continuing to trade an insolvent firm
Who owns limited companies?
Who runs and manages the limited company?
The business owners are the shareholders
The business is run by its directors, who are company employees.
Directors and shareholders can be the same person
Can a limited company have 0 directors?
No, there must be a minimum of at least 1 director
They manage and run the company
How are limited companies taxed since they are their own separate legal entity?
As the company is a separate legal entity, its profits and capital gains are liable to Corporation Tax
(This obvs differs to partnerships and soletraders, where the business is the same legal entity and therefore its pays CPT and Income Tax)
The company also pays EMPLOYER class 1 NICs
Private limited companies benefit from Business Relief.
What is this?
Business relief is where shares qualify for 100% inheritance tax (IHT) relief, if they have been owned by the deceased for at least 2 years at the point of death.
This can prove very helpful and people often retain a shareholding in a company to benefit from this
What is the difference between a company with a LTD designation and a PLC designation?
LTD = Limited Company. Privately-owned
PLC =Publicly-limited company. Publicly owned.
(shares become available on the stock market for purchase to the public)
If a company ‘floats’ on the stock exchange, what does this mean?
It becomes a publicly-owned company (PLC)
For a privately owned limited company (LTD) to be become a publicly owned limited company (PLC), what must the company do?
Have at least 25% of its shares on the stock market available to the public for purchase.
ie, at least 25% of the company must be owned by the public
Tell me some key differences between PLCs (publicly-owned limited companies) compared to LTDs (privately owned limited companies)
PLCs = Must have at least 2 directors and at least 2 shareholders. LTDs only require at least 1 director.
PLCs = A company secretary must exist, who is a member of a professional body. This is not required for LTD’s
PLCs= there must be an annual general meeting (AGM) of the shareholders with an annual report.
Any takeovers and mergers of PLCs are controlled by the Takeover Panel. This is an independent body which supervises and regulates takeovers with the aim of ensuring shareholder fair treatment.
For an IVA to be agreed, what percentage of creditor must agree to it
75% of creditors need to agree to the IVA. The IVA will be reviewed annually by an insolvency practitioner.
If I were to a say a company has gone bankrupt is that the correct term?
No
Individuals go bankrupt
Companies become insolvent
What is the Insolvency Act 1986 and the Enterprise Act 2002?
They are two key pieces of legislation in respect of bankruptcy
When a debtor is declared bankrupt their assets pass to the ‘official receiver’ order in which creditors are paid is
What is the difference between the official receiver and the insolvency practiser
An official receiver is appointed after the court accepts the bankruptcy petition (where the creditor requests the person is made bankrupt)
The official receiver then takes control of the assets and calculates the individuals total assets/liabilities etc. They do the admin work.
The official receiver then appoints an insolvency practitioner is made ‘trustee in bankruptcy’ who then sells the assets until liabilities are met.
Once the insolvency practitioner has been appointed as the ‘trustee in bankruptcy’ by the official receiver, they will proceed to sell the assets to meet the liabilities of the creditors. How do they know what creditors need paying first?
The insolvency act 1986 specifies an order for liabilities to be repaid:
1st to be repaid:
Bankruptcy costs – all the fees of the official receiver, trustee in bankruptcy, the courts.
2nd to be repaid:
All preferential creditors – such as missed wages, accrued holiday pay, pension contributions and any secured borrowing i.e. mortgages.
NOTE: STAGE 1 AND 2 ARE SWAPPED FOR COMPANIES GOING INTO LIQUIDATION
3rd to be repaid: Unsecured creditors –all other creditors not classed as preferential
What are culpable bankrupts?
Culpable bankrupts are those who have had the 12 month period extended because they continued to trade even though they knew they would go bankrupt
How much can undischarged bankrupts borrow?
and what about discharged bankrupts
UD Bankrupt= NO
D Bankrupt = yes but they must declare to the creditor if they are looking to borrow more than £500
If a company is going through liquidation’ what does this mean?
If a company is ‘winding up’ or being ‘wound-up’ what does this mean?
Both mean the same thing
Where a company ceases trading, so that its assets can be distributed to creditors and members and once everyone who can be paid has been paid, the company is dissolved. It will also be removed from the Companies House register.
This happened to Toys R Us, Debenhams etc
Company insolvency is a major event and can result in some creditors not receiving their monies
Therefore, it is important to explore other options before, just like it is for individuals like using debt relief orders instead of bankruptcy for example.
What other options are available for companies?
Company Voluntary Arrangements (CVA) - an agreement is reached with creditors, who accept an agreed lower amount back. (Its the equivalent to an IVA)
Administration - if the company is ‘saveable’. Where an administrator is brought in to run the company
If neither a CVA nor Administration is viable, then having the company wound up may be only option
There are three parties involved in a life contract: What are they?
The proposer/the applicant/the policyholder -
(They are also known as the ‘assured’, once the policy is in force).
They are the individual/company applying for the cover and will pay the premiums.
The life assured -
The person(s) whose death will result in the policy paying out. This could be the same as the assured, or it could be a different individual.
The life office -
The insurance company who assesses the risk, and the premium required
What is an ‘invitation to treat’ in relation to financial contracts, such as insurance contracts
A company’s advert, brochure, etc that is selling their product to the consumer
It is NOT the offer of contract. An offer is one of the requirements for a contract to be legally binding. The ‘offer’ in this case is the contract that must be signed by the applicant.
The offer and ‘invitation to treat’ are commonly confused as being the same thing
What is a consideration in relation to contract law?
A consideration is anything of value (such as an item or service), which each party to a legally-binding contract must agree to exchange if the contract is to be valid.
For example, in an insurance contract, the consideration for the life company will be the insurance (service) and for the applicant the premiums they pay
If only one party offers consideration, the agreement is not a legal- binding contract.’
If only 1 of the 2 parties in a contract offer a consideration, will the contract still be valid?
Contracts are not legally binding/valid unless both parties offer a consideration
In other words, both parties must stand to lose or gain something
For example, In a protection policy, the policyholder pays the premiums, and the life office guarantees to pay the sum assured in the event of a valid claim. There is therefore consideration on both their parts
Life assurance contracts have extra legal requirements to be deemed a valid and therefore legally binding contract.
These are:
Both parties show ‘Utmost good faith’
The applicant has an ‘Insurable Interest’
Explain what both of these are
Utmost good faith =
Applicant must present all material facts and take care not to misrepresent
The life company must disclose all material facts about how their policy works such as what it does/does not cover and also must not misrepresent
‘Insurable interest’ =
The policyholder must have a financial interest (‘insurable interest’) in the life assured. The life assured cannot be someone who’s death will not financially disadvantage the policyholder. For instance, a stranger, or a friend you haven’t spoken to in years
There are six situations where insurable interest is automatic.
What is insurable interest firstly and what are the 6 situations?
Insurable interest is an extra legal requirement unique to insurance contracts. It states the policyholder must have a financial interest (‘insurable interest’) in the life assured. In other words their death must cause a negative financial impact to the policy holder. If there is no insurable interest, the contract is invalid
There are six situations where insurable interest is automatic (it doesn’t need to be proven):
When insuring own life
When insuring spouse civil partner
An employer insuring their employee
A mortgagee insuring a mortgagor
A creditor on a debtor
Between business partners
For any other situations, evidence must be provided at the point of application to prove insurable interest
Who does not have capacity to contract?
Minors
Individuals without mental capacity
Individuals who are drunk (or not fully in control of their faculties) at the time of entering into a contract.
Individuals under duress
Any contracts taken out by minors (below 18) are 1 of 3 types. What are they?
Contracts for minors can either be: Binding, Binding unless repudiated, non-binding
1) Binding:
These are enforceable only if they are to benefit the minor, such as a contract of employment/apprenticeship.
2) Binding unless repudiated:
These are contracts that the minor can effectively back-out of before their 18th birthday ( known as ‘during minority)’.
Rent agreements are an example.
3) Non-Binding:
All other contracts beside the above.
If a contract is ‘during minority’ what does this mean?
Refers to 1 of the 3 types of contracts for minors.
It means they can back out before their 18th, (during minority), without any legal consequences. Basically the contract is not binding until their 18th (and a reasonable time afterwards) so they can back out. For example, rental agreements
REMEMBER: IFA’s are agents of the client so client is responsible got their actions
Single/multi tied advisors are agents of their firm so the firm is responsible for their actions.
Contract law, and agency law summary
Tell me about freehold, leasehold and commonhold tenure
