Many of the startups we work with are pretty advanced in the design of their proposition, marketing and technology but they switch off when it comes to the complexities of forming a company and structuring shares. 

I wrote a guide for one of our clients before Christmas and decided to publish a trimmed down version here. I hope you find it helpful! 

Warning: This information was correct when I wrote this but changes happen!

Background

There are a number of company structures available to businesses in the UK. I’ve attached them to this blog post in this PDF: Here

As the most common of structure used by startups in the UK is the “Limited Company” I have outlined some details on the benefits, process and shareholding below: 

Limited Company - Benefits

Taxation

One of the biggest advantages of running your business as a limited company is that it can enable you to legitimately pay less personal tax than a sole trader.

Limited company profits are subject to UK Corporation Tax, which is currently set at 19%. If you are the director and shareholder of a limited company, you may choose to take a small salary and draw most of your income from the business in the form of dividends.

By doing this, you can minimise the amount of National Insurance Contributions (NICs) you have to pay because limited company dividends are not subject to NICs. As a sole trader (or employee), your entire income is subject to NIC rules. Running your business as a limited company could therefore help you to take home more of your earnings. 

There are a number of calculators online that allow you to measure the benefit of using a limited company on the taxation of your earnings. There’s one here.

You will also be able to claim SME Research and Development Relief. Research and Development (R&D) reliefs support companies that work on innovative projects in science and technology. They can be claimed by a range of companies that seek to research or develop an advance in their field. They can even be claimed on unsuccessful projects.

SME R&D relief allows companies to:

• deduct an extra 130% of their qualifying costs from their yearly profit, as well as the normal 100% deduction, to make a total 230% deduction; and 

• claim a tax credit if the company is loss making, worth up to 14.5% of the surrenderable loss.

Separation of Company and Individual

A limited company is a completely separate entity from its owners. Everything from the company bank account, to ownership of assets and involvement in tenders and contracts is purely company business and separate from the interests of the company’s shareholders.

A sole trader and his/her business is treated as a single entity for tax and administrative purposes.

Limited Liability

Running your business as a limited company means you have the reassurance of ‘limited liability’.

Assuming no fraud has taken place, your ‘limited liability’ means you will not be personally liable for any financial losses made by your business. A limited company can therefore give you added protection should things go wrong.

Anyone running a business as a sole trader does not enjoy such protection from financial claims. If things go wrong with a business operating as a sole trader (or partnership,) the owners are personally liable for all the debt and liabilities of the business.

Being Professional

In some businesses and industries, having a limited company can provide a more professional image. If you are doing business with larger companies, you may find that they prefer to deal only with limited companies rather than sole traders or partnerships. 

One reason for this is that running a Limited Company will mean that you need to submit reports to companies house which are used by credit scoring companies to provide a rating that customers can use to assess your business as a risk. Positive trading over time improves your score (as it does with a personal credit rating) opening up larger opportunities to your business. 

Funding

Finding funding can be difficult for all types of new businesses. However, because a limited company is a distinct entity from its owners it may be a little easier for a company to secure business finance than it is for their sole trader counterparts.

Naming

Once you register your company with Companies House, your company name is protected by law. No-one else can use the same name as you, or anything deemed to be too similar. There is more information on naming below.

As a sole trader, it’s possible someone else could trade under the same name as you, and you couldn’t do anything about it. This could damage your business, and in some cases, result in you having to go through the costly and time-consuming effort of changing the name of your business later.

Shareholders

A limited company can issue various classes of shares. This means you can easily sell stakes in the company, or transfer ownership of shares. I’ll go into more detail about share structures later in this document.

If your limited company has more than one shareholder you should get a Shareholders’ Agreement which outlines your various duties and responsibilities. It can also be used to detail what shareholders can and cannot do with their shares. This will prove invaluable should a shareholder want to exit the business at a later date.

Costs

Many people prefer to operate as a sole trader rather than a limited company because the start-up and running costs are perceived to be significantly lower. However, you can form a limited company with on companies house for £12, so the cost of setting up a company really is minimal. Historically, you would pay your accountant to handle all of the administration involved with a limited company, but most of these tasks can now be done fairly easily and painlessly online.

Using an online accounting app will cut the time you spend on book-keeping. We use Xero which you can find here. Our accountants are Spark (https://sparkaccountants.com/) who use Xero to reduce the cost of managing our accounts.

If you’re reasonably competent with a computer, you can also easily handle limited company administration paperwork such as submitting your Confirmation Statement (what used to be the Annual Return) to Companies House every year yourself. Doing this yourself will help to keep down the cost of an accountant.

Most accountants will charge more for preparing annual accounts for a limited company than they would for a sole trader. This difference varies so ask your accountant what both options would cost you.

Pensions

A limited company can fund its employees’ executive pensions as a legitimate business expense which means that pension contributions can be made before tax is deducted. This can offer another significant tax advantage over those who are running their business as self-employed.

Succession

If a shareholder wishes to retire, sell his shareholding, or dies, it is far easier to transfer ownership of a limited company than a non-registered business structure.

Forming a Limited Company

The steps to register a limited company are relatively simple. 

As mentioned above you can do this yourself online for £12 here. The steps you should take before forming a company are as follows: 

Choose a Name

This may seem simple but there are some rules to be aware of. For a start you can’t use the same name as another company. You can check the availability of a company name here.

Your name cannot be ‘close’ to another name either. So if there is a Kebab For You Limited already Kebab 4U Limited is likely to be deemed unacceptable. That said, a quick look at the register shows some very similar names exist so how well this is policed we can’t say!

Your company name cannot be offensive in any way and cannot contain certain words that require special permissions. In general terms any name that passes you off as having qualification, license or accreditation that you do not have is not permissible (e.g. “Doctor”, “Charity” or “Bank”). Names that suggest patronage (“Royal”, “British”) are also protected. 

A full list of protected names is here.

Directors and Shareholders

You must have at least one director. It is no longer necessary to register a secretary. As a director of a limited company, you must:

• follow the company’s rules, shown in its articles of association;

• keep company records and report changes;

• file your accounts and your Company Tax Return;

• tell other shareholders if you might personally benefit from a transaction the company makes; and

• pay Corporation Tax

You can hire other people to manage some of these things day-to-day (for example, an accountant) but you’re still legally responsible for your company’s records, accounts and performance.

If you fail to perform these duties you can be fined or ‘disqualified’. Disqualification prevents an individual from being a director for six years and can have personal financial ramifications (for instance it can affect your ability to borrow money).

A director does not have to be a shareholder. Shareholders and directors have two completely different roles in a company. The shareholders (also called members) own the company by owning its shares. Directors manage the company day to day. Unless the articles say so a director does not need to be a shareholder and a shareholder has no defined right to be a director.

You must have at least one shareholder or guarantor. There is more information on share structures below.

Memorandum and Articles of Association

When you register a company online you normally adopt a standard Memorandum and Articles of Association (‘Mem & Arts’). The Mem & Arts is the document that sets up the company and the articles of association set out how the company is run, governed and owned. The articles of association includes the responsibilities and powers of the directors and the means by which the members exert control over the board of directors. 

Given how important this document is it is quite surprising how few business owners are aware of its content. Ensure that you read the standard document and that you are happy with the powers that it sets out for all officers of the company. 

Reporting commitments

A company must keep records of the following:

• name and company registered address;

• directors, shareholders and company secretaries;

• the results of any shareholder votes and resolutions;

• promises for the company to repay loans at a specific date in the future (‘debentures’) and who they must be paid back to;

• promises the company makes for payments if something goes wrong and it’s the company’s fault (‘indemnities’);

• transactions when someone buys shares in the company; and

• loans or mortgages secured against the company’s assets.

These matters are reported to companies house using relevant forms. You also have a statutory obligation to report the following:

Confirmation Statement: Submitted within 14 days of the twelve month anniversary of registration and at least every twelve months thereafter.

Financial Accounts (the rules vary on what level of information is required based on the size of the business): When a company is formed it is issued with an accounts reference date (ARD) on the last day of the 12th month after it was incorporated. 

E.g. a company formed on the 4th April 2019 will have a first ARD of 30th April 2020. A company must submit accounts to Companies House within nine months of this ARD and annually thereafter. An ARD can be changed with some restrictions. 

Corporation Tax Return (CT600): The CT600 must be submitted within 12 months of the accounting year end. Oddly the tax must be paid within nine months of the accounting year end. So you can actually submit your tax return after you have paid. 

VAT Returns. Companies with a turnover greater than £85k per annum must register for VAT: VAT registered companies must then complete a quarterly VAT return to HMRC, which is now done online. This breaks down the amount of VAT due on sales and the amount of VAT reclaimable on company purchases, with the difference between these being the amount of VAT payable to HMRC. The VAT return is due at the end of the month following the end of the quarter covered by the return.

PAYE Returns: Under the Real Time Information requirements, just about all employers must report payroll information to HMRC electronically. On or before each payday, they must thereby tell HMRC about the payments that have been made to employees and what deductions (like income tax and national insurance contributions) have been made. 

As well as these Full Payment Submissions (FPS), the company may also need to file an Employer Payment Summary (EPS). There are various other forms related to payments to staff that are often needed. 

Payroll software can often produce the right forms automatically, or your accountant will be able to offer guidance – but usually the relevant HMRC forms will include P11D, P14, P35 and P60. 

Alongside the reporting requirements, companies need to pay income tax deducted and employer and employee national insurance contributes to HMRC by the due dates. HMRC provide PAYE Tools for free here https://www.gov.uk/basic-paye-tools 

Issuing Shares

Decisions you make about the structure of investments into your company today can have a big impact on the future, especially where co-founders are concerned. The structure of your business can affect your ability to raise finance, as well as determining legal ownership, entitlement to dividends payments, and liability should the business fail.

Share Capital

In most limited businesses, the total capital of the company is divided into shares. A company can issue as many shares as it wants with the value that it wants to assign them. This is called share capital. For example:

Company issues 1 share valued at £1 – total capital is £1

Company issues 10 shares at £1 each – total capital is £10

Company issues 20 shares at £10 each – total capital is £200

The share capital also sets the limited liability, the profit entitlement and the decision-making powers of the shareholders.

Issued share capital is the total value of the shares that have been issued by a company. The actual or market value can be different to this, depending on the worth of the business when the share is being sold. A nominal value of £1 is always given to any share.

The total nominal value of the unpaid shares for each member represents their total financial liability. So if the business is unable to pay its bills or is wound up, each shareholder is legally required to contribute the nominal value of their unpaid shares.

So if a limited company issues just one share that represents 100% of the business, then it only has one shareholder. That person is the sole owner of the business and is often also the director of the company. If two shares are issued, then the company can have one or two owners, depending on whether one person buys both shares or two people buy one share each. Finally, if 100 shares were issued, each shareholder would be in control of 1% of the business, although one person could hold more than one single share.

Types of Share

There are also different types of shares that can be issued, each having different rights and conditions attached to it. These are outlined when the company is formed. Examples of types of shares include:

• Ordinary – this is the standard type of shares issued and offer equal voting rights, profit entitlement and capital rights to everyone who holds one

• Preference – this puts these shares above others in terms of dividend payments from the company profits. The dividend amount is normally a percentage of the nominal value of each share. Preference shares are normally non-voting and if the company is wound up, they offer no right to surplus capital over the dividend amount

• Non-voting – issues to employees as a tax-efficient strategy to pay part of their salary as dividends. They are also issued to family members of the main members of the business

• Redeemable – these are issued with the stated right for the company to buy them back after a certain period of time. They are often issued to employees and are sold back to the company if the employee leaves

The majority of companies in the UK use ‘ordinary’ as their class of shares when the company is formed. But companies can also choose to issue various types of shares if there are more than one or two shareholders. If you are unsure what type of shares would be best, then you can always get advice from a company formation expert as part of a company formation service.

Regardless of the type of shares issued, the company can change the class after formation as long as this is stated in the articles of association. Otherwise, company members will need to authorise the allotment of additional classes.

Number of Shares to Issue

Another question that is often raised when forming a company is regarding how many shares to issue. There is no right or wrong answer to this, it simply depends on the situation of the business. For example, if you are setting up a company as the sole owner and director, then you can issue just one single share that you buy yourself. But if a company is seeking to grow and wants to sell parts of itself to raise the capital it needs to expand, then you may need to issue more shares and this can be done when the company is formed. Whole numbers such as 10, 100 or 1,000 are favoured because it is easier to assign a percentage of the business by this.

Issuing Shares Later

Another option with regards to shares is to issue them later, after the company has been formed. To do this, you need to complete form SH01 with Companies House along with certain information. This includes the company name and registration number, the date of share allotment and details of the shares, details of non-cash payments and statement capital as well as prescribed particulars such as voting rights, dividend rights and redeemable rights for each share. Each company director then needs to sign the form.