One likely outcome of the global pandemic we’re living through is that it will be the catalyst for a surge in new business start-ups.
For some, the crisis has provided a glimpse into an alternative world where long-distance commuting and 9-5 working are not pre-requisites. For others, the new perspective we all now have on life will be the nudge needed to put long-dreamed-of plans into action. And for many people employed in sectors that will never look the same again, necessity will ignite a latent entrepreneurial spirit.
It’s often said that a financial downturn can be the ideal time to start a new business, and there are plenty of examples that prove this point. Airbnb, Disney, Electronic Arts, FedEx, General Electric, Groupon, Microsoft and WhatsApp all have their roots in periods of economic recession.
So, if you’re an entrepreneur with a good business idea, this could be your time!
Specialising in helping new businesses get started, we know how confusing it can be to navigate the set-up process. As we reiterate at the end of this post, you must get impartial, professional advice – but it’s also helpful to have a basic understanding about some of the fundamental things you’ll need to consider. In this, the first of two blogs, we address a few of the questions we’re most frequently asked:
1. Does the timing of when I start trading matter?
You have a robust and viable business plan, and you’re ready to go: does it matter when you begin to trade? It’s certainly a factor that you’ll need to consider. Starting up a business is fraught with risks. Four out of five start-ups won’t survive to see their fifth birthday – and although those choosing to work with Inca improve these odds by 185% compared to the national average, it makes sense to do everything possible to increase your chances of success.
Timing matters for two reasons.
First, if there is any seasonality to your business, you’ll want to begin trading in the run-up to your peak revenue period. Start too early or too late, and you’ll have to suffer outgoings with little or no income. Get the timing right, and you’ll be able to offset running costs against revenue – maybe even show a profit.
Second, you’ll have to consider your circumstances. There’s a good chance you’re going to feel financially squeezed for a while – are you and anyone else you’re responsible for fully prepared for this?
Most successful business owners will tell you they had to tighten their belt and make some sacrifices in the early days. You’re probably ready for this, but your decision on when to start could have other implications. For example, if you’re planning or in the process of buying a house, or re-mortgaging, you’ll want to be cautious and get the timing right, because your lender is likely to want to see accounts for at least one year of trading.
2. Is it best to be self-employed or limited?
When you work for yourself, you have two main choices regarding the status of your business. You can operate as a sole trader (self-employed) or as a limited company. There are pros and cons to both these structures.
The most significant difference between these options is that as a sole trader, you have full responsibility for the success or failure of your venture. But as the owner of a limited company, you will be protected by limited liability (because the company is a legal entity in its own right), meaning that you will only be responsible for debts to the value of your investment.
While setting up and trading as a sole trader is very straightforward, establishing and administrating a limited company is more complex and involves fulfilling a range of legal obligations.
The way you receive payment and are taxed will also differ depending on which structure you choose. As a sole trader, you will have to pay tax on your profit, i.e. the difference between your sales revenue and any costs you incur in making those sales. How much tax you pay will depend on your personal circumstances.
Trading as a limited company, you’ll have to pay corporation tax on any profit the business makes as well as income tax on any income you make personally. But shareholding directors of limited companies can also opt to take some of their income in the form of dividends. By balancing payments made as salary and payments made as dividends, it’s possible to use the limited company structure to mitigate tax liability and optimise income.
If your business involves high start-up costs and (like many people), you’re leaving salaried employment, setting up as a sole trader can present an opportunity to reclaim tax you’ve previously paid. Recovering tax paid in this way can provide a welcome cash flow boost to help kickstart your new business. However, as a business becomes increasingly profitable, a limited company structure can be more tax-efficient – but as already mentioned, will lead to increased reporting.
Ultimately, which structure is best for you will come down to a range of factors, including the kind of business you’re going to run and your unique personal situation.
3. Should I register for VAT?
It’s a common misconception that only limited companies can be VAT registered. In fact, whether your status is a sole trader or a limited company, you must register for VAT if your annual taxable turnover exceeds the VAT threshold – currently £85K.
But even if your turnover is below the threshold, you can choose to register voluntarily. Doing so will benefit your business if your input tax regularly exceeds your output tax – because you will be able to reclaim the difference from HMRC. And some businesses choose to voluntarily register because they believe it gives an impression of professionalism and sets them apart from non-registered competitors.
As a rule, voluntary registration is not recommended if you’re selling to the public, but if your clients are other businesses – and especially if they’re larger organisations, registering can be financially advantageous.
4. What financial records do I need to keep & for how long?
When you run your own business, you’re required by law to securely retain financial records in case HMRC should decide to take a closer look at your affairs. What you need to hold on to – and how long for, will depend on the status of your business.
If you’re a sole trader, you must retain your financial records for at least five years beyond your next tax filing deadline. Owners of limited companies are required to keep records for at least six full financial years, and businesses registered for VAT must keep records of returns for the same length of time.
The information outlined here can only ever be a guide. No two businesses are the same, and the individual circumstances of each person planning a start-up can vary widely. A range of factors – including how much you’ve earned in previous financial years – will need to be looked at in detail to determine the best, most cost-effective solution for you.
For nearly 20 years, Inca has helped hundreds of businesses to get started. We work with owners to create a structure that’s tailored to their situation, gives them the very best chance to succeed, and crucially, is flexible enough to adapt to future growth and change.
We’d love to hear about your new business and help you get set for success.
If your business has been affected by COVID-19 and you’d like help or advice on any aspect of your business finances, give us a call. We’re here to support you in any way we can.