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Legal requirements for small businesses

Legal Requirements for Sole Traders

Over this next week I’m going to write about the legal requirements of a small business, especially in regard to accounting.

The way in which you form the company depends on the type of structure you choose. There are many choices of legal structure available to someone starting out in business. The government publish some great, simple advice on starting a business so for greater detail click on “legal requirements“. We will consider the basics of each of them below.

legal requirements for small businesses

The structure you choose will dictate the type of financial records you need to keep, the level of your personal liability and the amount and type of tax you pay.
It will also depend on the kind of corporate image you wish to portray and may have a bearing on how easily you can raise funds and access finance.
We will consider the benefits and legal obligations of each of the above in turn.

Legal Requirements – Sole Trader & Partnerships

This first article considers the types of organisations you can create as a solopreneur or team of solopreneurs. It is written as a brief introduction to each type of organisation.
The government have produced a website which helps outline, in quite simple terms, what you need to do to comply with the regulations. I would recommend that you visit the website https://www.gov.uk/set-up-business-uk/overview for a more detailed overview of what is involved, though I have included links to specific pages where appropriate.

A sole trader is someone who works for his/herself. It is the simplest way to run a business as there is no Companies House reporting obligation, no registration fees and you get to keep all the profits. However, you will be personally liable for all the debts your business incurs and you pay tax on all the profits.

Partnership

A partnership is where 2 or more people come together to form a business. Each of the partners is self-employed and takes a share of the profits. Here’s the link to the government website about setting up a partnership https://www.gov.uk/set-up-business-partnership

It is worth noting that each partner is jointly liable for the debts of the business (ie they are equally responsible for paying the whole debt even if one partner was not involved in incurring the debt). If one of the partners leave having incurred a debt, the other partners may be liable.
If one of the partners dies, resigns or goes bankrupt, the partnership must be dissolved although the business can continue.

How to form the Company

If you want to operate as a sole trader, partnership or limited liability partnership you will need to register as self-employed. You must register with the HMRC (Her Majesty’s Revenue and Customs) within 3 months of starting your business. You will need to register online and complete a few basic details. Here’s the link.

Reporting Requirements

Your reporting obligations consist of an annual self-assessment tax return for each individual to HMRC and records showing details of your income and expenditure. For a partnership you are also required to submit a partnership tax return.

The Legal Requirements

There are two organisations with whom you need to comply and report. To make sure you are complying with the regulations, you need to know what documentation you must keep and what reports you need to send to them.

HMRC (Her Majesty’s Revenue & Customs)

The HMRC states for all self-employed people: “By law, you must keep business records for at least five years and ten months after the end of the tax year the records relate to” so for example, if you start your business on the 1st January 2014, your year end is 31st December 2014 so you have to keep the documents for 5 years & 10 months after the 31st December 2014 (ie 31st October 2020).

You’ll need to keep your business records and personal records separate. Most businesses find that it helps to have a separate business bank account.”

What they mean by “business records”

  • • A record of all your sales, with copies of any invoices you’ve issued;
  • • A record of all your business purchases and expenses;
  • • Invoices for all your business purchases and expenses, unless they’re for very small amounts;
  • • Details of any amounts you personally pay into or take from the business;
  • • Copies of business bank statements.
  • The HMRC also recommend that you keep a record of your private and business mileage to enable you to split the vehicle running costs in proportion.

    You can find lots of detailed information about record keeping from this website https://www.gov.uk/self-employed-records/overview

    If you have started a sole trader business after March 2013 and your turnover is less than £79,000 you can opt to adopt what they call a “cash basis” meaning you record income and expenditure when it hits your bank account (rather than when you raise your invoices). This may make accounting a little easier at first, and it means you pay tax only when the cash has come in to or out of your bank account. If you click on this link you can read more about it https://www.gov.uk/simpler-income-tax-cash-basis/overview

    Tax

    The tax that you will pay on your profits (subject to personal allowances) is Income Tax and Class 4 National Insurance Contributions. You will also have to pay Class 2 National Insurance Contributions as a flat weekly rate (though you can opt out if your profit is expected to be less than the threshold in the tax year).

    For a partnership the profit is allocated according to the percentage share of each of the partners prior to tax and NI calculations (eg. A partner having a 50/50 share in the business would declare 50% of the business profits on his/her personal self-assessment form).

    Later this week we’ll be considering the legal requirements of a limited company. If you have any queries or would like to ask questions then please feel free to get in touch with me at michelle@thefinancementor.com.

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