Contractors' Questions: Is sole trader best for Plan B?

Contractor's Question: For my Plan B, I'm tempted to set up as sole proprietor, as other suppliers I will need to trade with are also sole traders. But I'm mindful that limited companies might appear more professional to my prospective customers (who will not be recruitment agencies).

That said, a lot of limited companies seem to be having problems at the moment, on top of the fact that I don't want the associated paperwork burden of setting up and administering one. However, if my Plan B fails, would I be better of with an 'Ltd' because of the limited liability it affords? I certainly don't want to lose my brand new shiny house just for trying my hand at something new that didn't work out.

Expert's Answer: A private limited company is a legal entity in its own right - a body corporate which has been funded by those to whom shares in the company are allocated. The personal liability of the shareholders and directors is normally limited to the amount represented by the nominal value of their issued shares.

For a company, the equivalent of bankruptcy is insolvency and whilst a director is obliged to liquidate an insolvent company, he or she will face no personal loss or stigma, apart from any contribution to the share capital, should the company fail. However bare in mind that a limited company, like a person, can be sued in the civil courts. But you are right to suggest that, in the event your Plan B is taken to court, you may be less exposed personally, as any financial penalty imposed will normally be paid from the company's funds and not from the directors' /shareholders' pockets.

Unlike a person, a limited company can never die! It can only terminate when it is wound up. If one of the directors or shareholders were to die, the company would continue, with new directors and shareholders.

Aside from the potential of a smaller tax burden, the main advantage of operating a limited company is that of the limitation of the liability enjoyed by its shareholders with regard to the company's debts.

The original idea behind the first Joint Stock Companies Act of 1844 was to enable business promoters to set up limited companies more conveniently. Prior to that date, it had been necessary to obtain an Act of Parliament to do so.

Nowadays, the small private limited company is a vehicle, which enables a businessman to set up with little or no risk to himself. He is protected from the company's creditors by way of the limited status, unless he has provided personal guarantees.

He knows that if all else fails, his personal property will be protected from seizure. But by its proliferation however, the limited company has lost its former unassailable status of respectability and the words 'limited company' do not necessarily indicate stability or financial well-being.

You are also considering setting up a sole proprietorship. A sole proprietor or sole trader is a single individual, who trades on their own account, either in their own name or under a trading style. Whilst the sole proprietor can trade in his/her own name without too much difficulty, some care has to be taken in the selection of a trading name.

Firstly, you must ensure you are not treading on any local toes in selecting too similar a style to one already in existence. Secondly, you must ensure compliance with the laws of the land, which prohibit the use of such words as "Royal" and "English" in a trading style - a complete list of prohibited names is available upon request from Companies House. Perhaps it should also be stressed that a sole trader cannot use the word 'limited' as the last word in a trading style unless the business is incorporated and duly registered as such.

Prior to the 1981 Companies Act, which abolished the Business Names Registry, it was necessary for a sole proprietor to register his trading style if he carried out the business under any name other than his own. Now however, the name of the business does not have to be registered with any body or authority, which will lighten the red tape burden you wish to avoid. For the sole trader, it is merely necessary, if trading is carried out other than in ones own name, for the name of the proprietor to be shown on all business stationery and in notice form on the business premises. This notice should also include an address at which documents can be served. Furthermore, although annual accounts do have to be prepared and submitted to HM Inspector of Taxes, they do not have to be presented to Companies House or made accessible to the general public.

It is a relatively simple procedure to set up in business as a sole proprietor. The major disadvantage however, as you allude to, is that one is personally liable for any debts incurred during the course of business. When a sole proprietor dies, his firm dies with him.

As for the possible advantages to other suppliers in dealing with you a sole proprietor, well, providing that they/you are certain about the other individual's identity and whereabouts, and are confident regarding his/her financial status, the risks should be fairly minimal.

The emphasis here is upon 'knowing who you're dealing with,' as should things go wrong, one sole trader would need to seek out the other. Whether you form a limited company or not, if you deal with a proprietorship, you should always have the owner/s home address together with any business address. This can prove of vital importance should you encounter difficulties, such as the late payment of invoices.

The expert was Sid Home, managing director of Safe Collections, a debt recovery and credit reporting firm.

Editor's Note: Realted Reading -

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