4 Choosing a business structure
Having explored the types of business structures that exist we will now look at how to decide on the correct business structure. We will look at the key questions to ask and use two of the case studies to demonstrate how the choice is made.
The key questions are:
How big is the business likely to be?
Who are the clients?
How many people will be involved in the business and will there be employees?
Are there specific rules for the type of business, for example waste disposal of food hygiene?
How will the business be financed?
What is the turnover for the business likely to be?
Is the business likely to be sold in the future?
What are the potential consequences if the business fail?
We will start by taking the example of one of our mini case studies, Mucky Pets [Tip: hold Ctrl and click a link to open it in a new tab. (Hide tip)] . (To open the case study in a new tab on a PC, hold down the Ctrl key when clicking.)
| Key question | Answers | Implications |
| How big is the business likely to be? | Small part time business | Generating supporting income |
| Who are the clients? | Private individuals with pets, repeat customers | Local word of mouth, build up client list to service on a regular basis. Customers not likely to recover VAT on purchases so no benefit from VAT registration |
| How many people will be involved in the business and will there be employees? | Single person | Only the owner is involved so a sole trader arrangement would suit. |
| How will the business be financed? | Using owners own money and a small bank loan | Uses owner’s money, would suit simple tax return and self-employment arrangement |
| What is the turnover for the business likely to be? | £8000 per year | Well below the limit for compulsory VAT registration |
| Is the business likely to be sold in the future? | No | Trade is likely to be based on the competence of the owner. The equipment could be sold but it is unlikely to be sold as an ongoing concern |
| What are the potential consequences if the business fail? | Claim for damage to pets, no large debt issues. | Public liability insurance required. Little chance of significant legal claim against the business. |
Recommended business structure and justification: Based on these points, Mucky Pets should set up as a simple ‘sole trader’. There are fewer responsibilities and the owner effectively uses their own money to run the business and takes any surplus as their own. The key responsibility is the submitting of an annual tax return and registering as self-employed. The loan for the equipment is seen as a personal loan and secured against the owner’s personal assets. An accountant could be retained but for simple tax returns this is not essential. The owner should get specific advice and take out insurance suitable for the industry to insure against claims from pet owners. | ||
Now it is time for you to try this activity. This time consider JJ Components. (To open the case study in a new tab on a PC, hold down the Ctrl key when clicking.) Here is the table for you to complete.
Activity 6
Complete this table for JJ Components, once completed click ‘Save and reveal comment’ for our views:
| Key question | Answers | Implications |
| How big is the business likely to be? | ||
| Who are the clients? | ||
| How many people will be involved in the business and will there be employees? | ||
| How will the business be financed? | ||
| What is the turnover for the business likely to be? | ||
| Is the business likely to be sold in the future? | ||
| What are the potential consequences if the business fail? | ||
Recommended business structure and justification: | ||
Comment
| Key question | Answers | Implications |
| How big is the business likely to be? | Premises on business unit with expensive equipment and stock | Expensive equipment and premises. Significant finance tied up in the business |
| Who are the clients? | Large limited companies and organisations, likely to be VAT registered | Large companies expect to be dealing with limited Companies of some type |
| How many people will be involved in the business and will there be employees? | Three, owner and two employees | Business will be classed as an employer with all associated responsibilities |
| How will the business be financed? | Business loan from the bank | Large loan, if the owners were personally responsible for the loan it could be taken from personal assets. It would be ideal if the owner had limited liability for company debts |
| What is the turnover for the business likely to be? | £280,000. This is well above the level for standard VAT registration | The business will charge and claim back VAT |
| Is the business likely to be sold in the future? | Potential to sell the business as a going concern | There is potential to build up a client base that is not solely dependent on the owners’ skill and so the business could be sold |
| What are the potential consequences if the business fail? |
| If the owner is personally liable for the business, then all obligations would be met from their personal assets. |
Recommended business structure and justification: JJ Components should set up as a private limited company. This structure gives the most protection to the owner and allows the business finances to be kept completely separate from the owner’s finances. Professional advice should be sought with regards to: public liability insurance, employers’ liability insurance and professional indemnity insurance are recommended. Appointing an accountant will ensure that all accounting responsibilities are met and the accountant may well take care of the payroll expenses as well.
This business could be set up as a Sole trader but there could be a risk of losing personal assets if the business were to fail.
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3.1 Business legal structures