TB - starting a new business - types of business medium Flashcards
what are the two types of business medium
- unincorporated businesses (sole traders/partnerships)
- incorporated businesses (private and public limited companies/limited liability partnerships)
what is the fundamental distinction between unincorporated businesses and incorporated businesses
an incorporated business has its own legal identity or separate personality and needs to be reg with CH
it’s an artificial ‘person’ created by law and is legally distinct from those who own and run the business
key term - unincorporated business (does it have its own legal identity)
an unincorporated business doesn’t have its own legal identity (or separate personality) - there’s no legal distinction between the business and its owners and managers
key term - incorporated business (does it have its own legal identity)
it has its own legal identity (or separate personality)
there’s a legal distinction between the business and its owners and managers
practice q - Niamh is the only director and shareholder of a plc. the company has entered into a contract with your client, Linda, and failed to perform its obligations. should Linda consider legal action against Niamh, the limited company or both
Linda should consider legal action against the limited company only - as a separate (artificial) legal person, it owes the contractual obligations to her
what is a sole trader/proprietor
someone who’s self employed and owns and runs their own unincorporated business
can a sole trader have employees
yes but they are still the sole owner of the business
sole traders may be involved in any trade, business or profession and can be anything from window cleaners and hairdressers, to accountants and solicitors - what does the term sole practitioner sometimes refer to
sole traders/proprietors who have a profession (eg dentist) rather than a trade (eg shopkeeper)
as an unincorporated business, there’s no legal separation between the business and the sole traders personal affairs/assets - what is an advantage and disadvantage to this
advantage - keeping ownership and management simple
disadvantage - sole traders have unlimited liability
key term - unlimited liability
a business owner is personally and directly responsible for all debts and liabilities incurred
unlimited liability - a business owners personal assets (eg any property they own or money held in bank accounts even if unrelated to the business) will be at risk, and they can be made bankrupt if the business is unsuccessful - true or false
true
the concept of unlimited liability is a key disadvantage of carrying on business as a sole trader and its implications can have serious consequences
practice example
katrina set up business as a hairdresser several years ago, but the liabilities of the business now exceed its assets by over £100k . K has savings of 50k and a house worth 200k.
the realisable assets of the business amount to 20k - how would you advise K
as a sole trader K will be personally liable for the debts of the business
the business is unincorporated so doesn’t have its own legal identity (or separate personality)
there’s no legal distinction between the business and its owner/manager
therefore K’s personal assets will be at risk (including her home) if she’s unable to satisfy the debts of her business
although unlimited liability can be a sig disadvantage of being a sole trader, a key advantage is that there’s no specific formalities or legal processes required to set up the business - do self employed people need to register with HMRC
self employed people do need to register with HMRC and some sole traders may be required to register for VAT
however the additional costs of forming a company are avoided
are there onerous ongoing formality, decision making, filing and disclosure requirements for sole traders
no (unlike companies)
this can make being a sole trader more attractive, private and less expensive
sole traders pay income tax on their trading profits and capital gains tax on their capital gains - true or false
true - they will usually obtain tax advice when deciding on the type of business medium
practice example
R wants to set up his own business as a business cleaner. His funds are modest and his liabilities and financial investment will be low. He’s keen to keep things simple and not to incur substantial expense. How would you advise R with regard to the most suitable business medium for him
although the benefits of limited liability may be sig for those investing large sums and taking sig risk, it would appear that the costs and administrative burden of setting up a limited company would not be appropriate here. therefore in this situation it would be advisable for R to operate his business as a sole trader
key term - partnership
an unincorporated business with at least two owners
an unincorporated business that exists when two or more people carry on a business in common with a view of profit
s1 Partnership Act 1890
partnerships under the PA must be distinguished from limited liability partnerships (which are incorporated businesses) - true or false
true
as with sole traders, although the partners in partnerships may have employees, will they still be the owners
yes
practice example - N and D are friends. they make and sell cakes in the town where they live and split the money they receive 50-50. they think that as the arrangements are purely informal and there’s nothing in writing, this isn’t a partnership - is this correct
they are mistaken - as N and D are carrying on a business in common with a view of profit, this is a partnership as defined by s1 PA. there’s clearly agreement between the parties (whether oral or implied by conduct) as to how the business is run
are there any specific formalities required to set up a partnership business
no
a partnership can arise through oral agreement or through conduct - true or false
true
if the parties are actually carrying on business together with a view of profit - does a partnership exist
yes
although no specific formalities or legal processes are required to set up a partnership, is it desirable to have a formal partnership agreement, setting out the terms of the partnership
yes because many of the provisions of the PA will apply, in the absence of an express or implied agreement to the contrary (the so called default provisions - many of the default provisions can have undesirable consequences)
as an unincorporated business, is there a legal separation between the business and the partners personal affairs/assets
no
as an unincorporated business, there is no legal separation between the business and the partners personal affairs/assets - so are they personally and directly responsible for all debts and liabilities incurred whilst they’re partners
yes - S9 PA
their personal assets are at risk and they may be made bankrupt if the business is unsuccessful
under the PA for partnerships there’s no separation of ownership and control (s5 PA) - every partner may act for the purposes of the partnership business and the acts of any one partner may bind the partnership - true or false
true (this can make management more straightforward than with companies)
do partners need to register with HMRC and is it true that they may be required to register for VAT
yes they do need to register with HMRC and they may be required to register for VAT
in partnerships what are the additional costs that are avoided due to the nature of partnerships
the additional costs of forming a company are avoided
there are no onerous ongoing formality, decision making, filing and disclosure requirements - how is this an advantage for partnerships
it makes being in a partnership more attractive, private and less expensive
what do individuals in partnerships pay income tax on
on their share of the trading profits and capital gains tax on their share of the capital gains for the partnership
they will usually obtain tax advice when deciding on the type of business medium
is a company an incorporated business or unincorporated business
incorporated business
does a company have separate legal personality
yes
do the owners (members) in a company usually have limited liability or unlimited liability
limited liability
the company may be limited by shares or guarantee and can be public or private - true or false
true
key term - company
an incorporated business with separate legal personality, where its members can have limited liability
can a company exist without the involvement of companies house
no - unlike sole traders and partnerships, a company is the creation of a legal process and docs must be file at companies house in order for a company to be born
note
companies may be involved in any trade, business or profession, they range from v small private companies with just one director and one member/shareholder to v large listed public companies (whose shares are traded on a stock exchange)
exam warning
for purposes of sqe1 focus on private companies limited by shares and only those public companies whose shares aren’t traded on a stock exchange (ie unlisted public companies)
what are the two key hallmarks
- separate legal personality
- limited liability
which case was the principle of separate legal personality enshrined in
Salomon v A Salomon and Co Ltd [1897] AC 22
what was held in the case of Salomon v A Salomon and Co Ltd [1897] AC 22
it was not fraud to set up a limited company in order to create a separate legal person, to avoid personal responsibility for debts
cases where the court will disregard the fundamental principle found in the Salomon case and impose personal liability are very rare - true or false
true
key term - separate legal personality
the company is a person separate from its members/shareholders and directors
as a separate legal person, it can own property, enter into contracts and be a party to legal proceedings (by suing or being sued)
it is a key advantage of incorporation and as an artificial person, it can have perpetual succession (can continue indefinitely)
is a company the agent of its shareholders
no - unlike sole traders and partnerships
not even a one person company with one director and one member/shareholder
key term - shareholders
the shareholders own the shares in the company
sometimes shareholders are referred to as members
key term - directors
the directors have general management powers to control what the company does on a day to day basis - they run the company
can directors and shareholders be the same people
yes - often the case with smaller companies
is the separation of membership (ownership) and management an advantage or disadvantage of incorporation
it is a key advantage
but can also be unnecessarily cumbersome for smaller businesses (eg a one member, one director company)
how is a sale/transfer of a company or any interest in it made more straighftorward
as this can be done through the transfer of shares as an alternative to the transfer of the assets themselves
what are the two ways that liability may be limited
it may be limited by shares (more commonly) or by guarantee (usually for non profit making entities)
key term - limited liability
limited liability means members have a limit on their liability to contribute towards the company’s debts
limited by shares meaning
the liability of members (shareholders) is limited to any amount unpaid on their shares
limited by guarantee meaning
the liability of members is limited to any amount they promise to pay in the event that the company is wound up
ie when it’s brought to an end and ceases to exist
is limited liability a significant advantage or disadvantage of incorporation
advantage
practice example - K subscribes and pays for 100 £1 shares in a private limited company. the company is subsequently wound up - what is K’s liability
K will have no further liability as he held fully paid shares - had payment not been made, or only partially made, he would be liable for the balance
what are the two most significant advantages of incorporation
- separate personality
- limited liability
having a company can be perceived as being more prestigious to both owners and clients/customers - it’s the main format for most big businesses and they’re recognised internationally - true or false
true
companies can grant floating and fixed charges - what is the advantage of a floating charge
it is a more flexible form of security, which can improve the banking facilities available to companies
what is a disadvantage for companies when it comes to commercial secrecy
most info kept at companies house becomes public - this may not be attractive to those who value commercial secrecy
what do companies pay corporation tax on
their income profits and their capital gains
private limited company characteristics
- a company that’s not a public company (s4(1) Companies Act 2006 (CA))
- may be limited by shares or by guarantee
- shares cannot be offered to the general public (s 755 CA)
- no minimum capital requirements
public limited company characteristics
- certificate of incorporation states that it’s a public limited company
- may be limited by shares
- general public can be invited to subscribe for shares
- min capital requirements £50k (ss 761 and 763 CA.. shares must be at least one quarter paid up (s586 CA)
- subject to more stringent/onerous rules (particularly on disclosure) as public money is involved
- comp may apply for shares to be officially listed for trading on a recognised investment exchange (eg london stock exchange or alternative investment market)
- officially listed companies are subject to additional disclosure rules
which act is a limited liability partnership formed under
the Limited Liability Partnerships Act 2000
a limited liability partnership is a type of incorporated business and is formed by sending which form to companies house
form LLIN01
key term - limited liability partnership
a cross between a company and a partnership, formed under the LLPA
an LLP has a combination of the features of both partnerships and limited companies - true or false
true
for eg they’re available for persons carrying on a lawful business with a view to profit s2(1)(a) LLPA and every member is deemed to be an agent of the LLP (s6 LLPA)
when a limited liability partnership is registered at companies house - does it have separate personality and do the members have limited or unlimited libaility
it has separate personality s1(2)LLPA and members have limited liability/aren’t directly responsible for its debts s1(4) and (5) LLPA
like the PA the Limited Liability Partnerships Regulations 2001 provide provisions that apply between the partners in default of express or implied agreement to the contrary - does this grant less or more flexibility
more flexibility with regard to management than companies, which have stricter separation of powers
can LLPs grant fixed and floating charges over their assets
yes
companies are subject to ongoing administrative and reporting requirements - is this the same for LLPs
yes
what is a key disadvantage of LLPs
they are not as well recognised internationally as limited companies
what do LLP members pay income tax on
their share of the trading profits
what do LLP members pay capital gains tax on
their share of the capital gains for the partnership
