Legal Structures Guide
Information and advice on different legal structures you might adopt.
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Information and advice on different legal structures you might adopt.
Your box office split, for example, may be less than you expected. A grant or payment for work may arrive late, fall short or not come in at all.
If you’ve been operating on the basis of verbal agreements, you may run into trouble in terms of employment contracts, rental agreements, maintenance contracts, National Insurance or tax. And if there are disputes over money or property you’ll find that the law will assign you a structure, even if it’s something you’ve never thought about.
The following gives you a guide to common legal structures for businesses.
This is the simplest set-up, and one of the most common. At its most basic, it means being self-employed. One person is in complete control and takes all the profit or loss. There are no legal set-up costs and relatively little paperwork.
If you’re a sole trader and you want to have a business name, you can. You must make sure, however, that your name and contact details, as well as those of the business, are on all the paperwork. That includes letters, invoices and contracts.
Once you start trading, you must register with HM Revenue & Customs (HMRC) within three months. You’ll be responsible for paying your own National Insurance contributions, submitting an annual tax return and paying income tax on all profit above your personal tax allowance.
If something goes wrong and suppliers demand payment when there isn’t enough money in the bank, you’re responsible for all the debts. In extreme cases, the creditors – ie the people who are owed the money – could take you to court to force payment. If the court finds against you, you could be forced to sell private possessions to settle your debts.
In this case, two or more people are in joint control and share all profits or losses between them, usually equally. There are no strict formalities and nothing has to be put in writing. It is, however, a good idea to have a solicitor look over an agreement, which all the partners sign. Each should keep a copy.
The agreement should set out:
In a partnership, each member is responsible for the business dealings of the others, even if they were not personally involved. If, for example, one partner does not pay their share of the debts, the other partners have to share that debt between them as well as paying their own share. So if someone doesn’t pay their tax bill, HMRC can legally force the other partners to pay for them.
This is the structure most commonly used by voluntary organisations. The organisation agrees to be governed by a set of rules – a constitution. It’s fairly easy to draw up – the Scottish Council for Voluntary Organisations (SCVO) has a model constitution that can be adapted to your needs. It provides a democratic structure, and you do not necessarily have to have a formal audit of your accounts.
As with a partnership, the people who act for an unincorporated association (the management committee, for example) can be held personally responsible for its contracts and debts.
The organisation does not have a separate legal identity. If it wants to buy or lease buildings or land, it would have to do so in the names of designated members. An unincorporated association cannot buy land / buildings etc.
A trust may be the right legal structure if you don’t want to have members. It’s quick to set up, but you will need legal advice to prepare a trust deed. There are fewer rules to follow than with a limited company, but you will have to keep written track of all changes in trustees.
A trust is not normally a suitable structure for an organisation taking on premises or employees or entering into contracts. That’s because trustees can be held personally responsible for the organisation’s contracts and debts. You’ll find that many organisations with the word ‘trust’ in their name are actually companies limited by guarantee.
A limited company has a separate identity in law from the people who set it up. A private company may be limited by shares or limited by guarantee.
In these commercial companies, members buy shares and hope to receive a share of the profits in the form of dividends to create companies limited by shares.
Control is in the hands of a board of directors elected by the members. As long as they run the company responsibly, their personal possessions are protected and cannot be seized, even if the company ends up owing large sums of money.
There are costs involved in establishing a company, and annual costs to ensure all legal responsibilities are met.
Suppliers and other outside organisations are often more comfortable dealing with a limited company than with a sole trader or partnership. However, if a small company wants a bank overdraft, or to take on a lease, the bank manager will usually insist on a personal guarantee from one or more of the directors.
The company’s Memorandum and Articles of Association — the rules by which it operates – must be lodged with Companies House. More information about that can be found on the Companies House website, along with model articles.
The Memorandum and Articles need to include:
Companies House requires details of each of the directors, and must be informed every time a director resigns or is appointed. A company secretary may take responsibility for sending out meeting agendas and keeping records, ensuring the annual return is returned to Companies House on time. The post is optional, but the duties are compulsory and must be fulfilled by the company.
Similarly, you don’t have to have Annual General Meetings, but you must make sure members can call General Meetings. You must also state how members will be included in decision making and kept informed of company business.
Each year a set of audited accounts must be sent to Companies House within nine months of the financial year end. These are made publicly available. There is a clear, standard format for accounts from a limited company. It involves a considerable amount of work, but if the returns or audited accounts are not sent to Companies House on time, the company will be fined.
Company directors must pay tax whenever the company pays them any money, whether or not their other earnings are assessed and taxed under self-employment status.
This is a more complicated legal structure and means you’ll have to pay solicitors at the set up stage and accountants at least annually. But if you want to lease or buy a building, take on employees or protect members against responsibility for company debt, it might be the right one for you.
This is a useful — and common — structure for arts organisations. Members don’t own shares. Instead they pledge to pay a small sum, usually £1 or £5, if the company has to wind up because it can’t meet its debts.
Members don’t expect to benefit financially from the success of the company. Their role is to guarantee its success, and ensure it operates legally. Any profits are reinvested into the company.
You may hear the North American term ‘not-for-profit’ relating to these companies. In the UK, the more usual description is ‘non-profit-distributing’ company. In every other respect this organisation is like a limited company with shares.
This option offers the flexibility of a partnership within a corporate, legal entity. Directors are referred to as members. An LLP differs from a limited company in that members’ agreements are confidential. It is also taxed as a partnership, whether profits are distributed to members or not.
It’s an option that offers many of the tax advantages of a sole trader partnership. Also, while an LLP is liable for the full extent of its assets, individual members can limit their liabilities.
This option is not available to charities, as the organisation must have the intention to make a profit.
LLPs involve a healthy amount of administration, as they must register with Companies House. They must also file annual accounts and notify Companies House of any changes to the registered office as well as members’ names and addresses.
A charity is not always a legal structure in itself. It’s more usually a status given to a structure like an unincorporated association, trust or company limited by guarantee. If your organisation is providing public benefit and using its income for charitable purposes only, it can apply to be entered on the Scottish Charities Register.
If your company has separate legal and charitable status, it might have to meet two different sets of legal requirements and satisfy more than one regulator. For example, you might have to deal with both Companies House and the Office of the Scottish Charities Regulator (OSCR). That could mean more paperwork — the same information and layout won’t work for both. You might need your solicitors or accountants to help. So you need to allow more money for administrative costs.
Arts organisations usually apply for charitable status by stating charitable purposes like ‘the advancement of education’ or ‘the advancement of the arts, heritage, culture or science’.
Becoming a charity offers several advantages, for example access to funding and tax benefits. Disadvantages include restrictions on the activities charities can undertake, the uses they can put their money and assets to and the amount of reporting and administration needed.
This relatively new structure was introduced in 2011. It combines charitable status with an incorporation structure, overseen by OSCR. It offers most of the advantages of charitable status. It also has the added advantage of dealing with only one regulator, so there’s less administration.
However, unlike charitable status, this is a legal structure. That means the organisation can’t continue to exist if it loses its SCIO status.
The CIC structure was introduced in the Companies (Audit, Investigations and Community Enterprise) Act 2004. It is intended for use by non-profit-distributing social enterprise organisations that provide a benefit to the community but are not charities. It’s a structure that may be able to provide investors with a limited return.
Existing Scottish charities cannot change their status to Community Interest Companies, but they can form one as a subsidiary.