Alex McPherson, Founder of Ignition Law
Incorporating a business can be paramount to safeguarding ventures going forward and establishing a solid foundation for any business.
This is particularly true for emerging tech start-ups who are looking to enter and lead disruption within entire industries. A considered and tailored approach should be taken by start-ups who are incorporating. Disruptive companies are continually breaking the mould, and it is for this reason that when it comes to the executed method of incorporating, for start-ups, it is not a case of one size fits all.
Incorporation or registering a business as a limited company puts in place a legal structure whereby the liability of each shareholder is limited to the value of their individual investment in the business. Limited companies are recognised as separate entities which are distinct from the people who run them.
Whilst a sole trader may have to sell their personal assets to repay business debts, an owner or shareholder of a limited company would not.
Therefore, in general, if the limited company is unable to repay its debts, the owners will not have to dip into their personal funds or sell personal assets to meet the repayment obligations.
This can give investors added comfort in the sense that they will not stand to lose any more than the amount they have invested. Trading through a limited company can also give a business more credibility, as an incorporated business comes across as more “professional”.
Another benefit of operating through a limited company structure is the ability this gives to pay dividends, which from a tax-perspective can be more beneficial than salaries for shareholder employees. Note however that the tax-free dividend allowance for individuals has reduced significantly over recent years and currently stands at only £2,000 per year.
Incorporating a company can also help to protect company names and enhance a company’s credibility in the eyes of suppliers and customers.
This is particularly advantageous for emerging SMEs who are navigating the highly competitive start-up arena and vying for the attention of investors and consumers alike. By incorporating your company, you’re making sure no one else can incorporate a similar company with your chosen name. This, coupled with intellectual property protection, is a fairly robust method for avoiding name-related legal disputes in the future.
Legal advice can assist in assessing whether a start-up’s chosen company name is likely to comply with the relevant legal requirements. With that being said, limited companies are subject to a greater administrative burden, including financial reporting obligations that can be costly to meet. Therefore, before choosing to incorporate, business owners must decide whether this burden will likely be offset by benefits such as limited liability.
A company’s constitution and the rules governing its administration are set out in its memorandum of association and its articles of association, both of which are created when a company is incorporated.
This includes the legal agreement to form a company (which is signed by a company’s initial shareholders) and the legal contracts concerning the rights and obligations of the company and its shareholders. Having a constitution in place is beneficial as it provides an agreed default position when certain circumstances arise (e.g. when it comes to voting on decisions or if one shareholder wishes to transfer their shares). However, for unincorporated businesses, this can also be achieved by the company and its shareholders entering into a shareholders’ agreement.
Legal advice teams can assist in the drafting of these constitutional documents, to reflect a business’s intentions as to how it will run post-corporation (and liaise with Companies House on their behalf).
Taking legal advice can also assist disruptors in selecting the method of incorporation that best aligns with their individual objectives.
Therefore, it is worthwhile for start-ups to consider seeking legal advice when they are incorporating their businesses. A presence of solid legal advice can help start-ups establish all possible benefits and drawbacks of incorporation in the context of their business circumstances.