Incorporating your business for COVID-19 resilience
There are more than five million self-employed people in the UK – a number which has risen dramatically over the past 20 years, writes Charlotte Bull, senior solicitor at Hewitsons.
A lack of job opportunities as a result of the coronavirus crisis is often cited as an accelerant for the recent surge in entrepreneurship and self-employment.
Less formal and less burdensome trading structures suit many business owners, particularly in the early stages of the business lifecycle.
However, the challenges and risks of the pandemic will prompt many sole traders and partnerships to look at business structures that will limit their personal exposure to business liabilities.
The most common types of unincorporated business are sole traders and general partnerships. A sole trader runs a business alone, owning all the business assets and making all decisions. There is no legal formality required to begin trading as a sole trader and relatively low ongoing administration costs.
More than one individual carrying on a business together with a view to a profit will be partners rather than sole traders. Partners do not have to enter into any legal formalities in order to be treated as partners under the law and to be subject to the provisions of the Partnership Act 1890. Usually partners will enter into a bespoke partnership agreement governing their relationship.
Neither sole traders nor partnerships will be subject to the more onerous filing and maintenance obligations which are placed on limited companies who must publish accounts, constitutional and ownership information at Companies House.
The financial shock inflicted on many businesses by the COVID-19 pandemic has made self-employed sole traders and partnerships particularly vulnerable as they have personal liability for all the debts and liabilities of their businesses.
If the business fails then this will crystallise not only redundancy and other termination costs to employees but a range of other liabilities. Notably, sole traders or partners remain exposed to their rent and other obligations under the lease of premises.
If they default under their lease, their landlord can bring proceedings against them personally for unpaid rent, service charges and repair and dilapidation costs under the lease. These can be very significant.
Unfortunately, unincorporated businesses can no longer rely on the forbearance or leniency of their landlords, who are themselves likely to be experiencing stark challenges. Landlords will be in a stronger bargaining position where they know that the tenant is at risk of using up their savings or losing their homes.
Against the background of the continuing economic uncertainty caused by the pandemic and the unknown consequences of Brexit, it is not surprising therefore that many are making changes to their business structures to reduce their personal risk and increase business resilience.
The most common approach to limiting personal liability is for sole traders or partnerships to incorporate a private company limited by shares. A limited company has a separate legal personality and exists independently from its owners (members) and managers (directors).
A company can enter into contracts and assume liabilities in its own name, without exposing its owners to the liabilities and obligations under those contracts.
Alternatively, some firms opt to register as a limited liability partnership. Like a company, LLPs have separate legal personality and are responsible for their own debts so the personal liability of their members is limited to the investment they have made. An LLP is ‘tax transparent’: The members are treated as self-employed and they (not the LLP) are taxed on any profits themselves.
The corporate team at Hewitsons routinely assist business owners and founders with establishing the trading vehicle which best suits their requirements, including the desire to limit their personal exposure in the event their business fails as a result of events beyond their control.
Whilst incorporating businesses may have some administrative and other drawbacks, the value of owners being able to sleep more easily in their beds in a volatile world is not to be underestimated.