Suitable financing options should be well thought-out. Working capital will be needed in the short-term and for machinery and premises, long-term finance. The right mixture between equity and loan finance remains another consideration. Self financing places the risk firmly with the entrepreneur who has the added pressure to succeed on his own merits. Loans from family and friends will need to be repaid, at some stage. Whereas loan finance from banks or alternatively venture capital are becoming increasingly difficult to extract. It is vital not only to keep a rigid cost control but also imperative to service any debt before funding the next stage.
An appropriate risk analysis is needed too. What is the worst case scenario? Should the budding entrepreneur embark on a new product or even new market? Alternatively, is acquisition of an existing business through a share purchase or procuring the business assets including goodwill a solution? Franchising is one option because it allows the franchisee to benefit from the existing goodwill of the franchisor.
The structure of the business presents another facet. Setting up as a sole trader or in partnership is rather different to setting up a limited company. A company structure may at first appear more enticing. For most start-ups the relevant tax rate of a company is 21% with retained profits benefiting from a “nil-rate band,” provided that no dividends are paid. In a partnership, taking account of national insurance contributions, taxation is at 31% for the basic rate taxpayer and 51% for the higher rate tax payer. There is also the issue of limited liability with incorporation.
Nevertheless, a partnership may still be more beneficial. Losses are likely to be borne before a business takes off. With a partnership trading losses can be carried forward against profits of the trade. In addition, “sideways loss relief” up to the sum of £25,000
allow partners to set their share of the partnership’s trading losses against other income or capital gains. In contrast, a company can only be set off against future profits of the same trade, such that if it is unsuccessful, the losses are simply lost.
For capital gains tax purposes where a sole trader or partnership is incorporated into a company, incorporation relief is available where all the assets of the businesses are transferred in exchange for shares. Though, it may not always be advantageous to apply incorporation relief particularly where there is little goodwill built up. Even so, it is useful to use up the £10,100 general exemption limit. Where there is substantial goodwill built up prior to incorporation, the directors effectively have loan accounts which they can utilise in future without tax implications.
To assist targeted regions outside London, George Osborne in his budget dated 22 June 2010 introduced a payment holiday for new businesses taking on employees in respect of the first £5,000 for employers Class 1 NICs due in the first year of employment.
In essence, a cautious view should be taken in relation to the amount of capital required to fund marketing and development if a new business is to succeed, including readiness to take advice where appropriate.
Edward Daniel, solicitor at Edward Daniel Solicitors
Edward.daniel@edwarddaniel.com or 00 44 207 816 3624
www.edwarddaniel.com
This publication is a general summary of the law. It should not replace legal advice personalised to your particular circumstances and needs.
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