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Setting-up in business

Introduction

Starting a business is for most people a dream of escaping the restrictions and frustrations of employment and of achieving a level of wealth only available outside employment. For many, it remains such a dream. They remain on the sidelines, never fulfilling their dreams, confined only to watching the success stories of others. Those who do venture out on their own start upon a long and slippery track. Some are successful - the most impressive of these make headlines in the tabloid news, praised for creating jobs and for benefiting the wider community. Others fall by the wayside into insolvency and bankruptcy, forgotten statistics of today's demanding business environment. We'd much rather you kept firmly to the track - which is why we do everything we can to help you to achieve your goals. Here at Baty Casson Long, we have practical experience and understanding of the workings of a small business. We know that the problems you will encounter on a daily basis will often seem insurmountable. We'd like to help you to overcome these problems and to eliminate some of the lost sleep which inexperience and limited resources often cause, leaving you more time to throw your energies into what you're best at. Hence we offer practical and pro-active advice and support from senior qualified staff whenever you need it - and we fully appreciate that more often than not, this will be outside the normal working week. In this way, we can prevent the consequences of routine mistakes which drive so many small businesses to insolvency and dissolution within their infancy. In addition, we can offer you specialised technical expertise and a sensitive appreciation of the wider business community, proved by our century-long history of links and an established reputation with local and regional businesses. Please consider the topics in this short guide as an introduction to setting-up your own business.

Contents:

The beginnings
Insuring your interests
In search of finance
The business plan
Cash planning check-list
Your accounts
Records check-list
The tax element
Start-up check-list
The next step

The beginnings

Over half the businesses set up within the United Kingdom fail within two years - a sobering thought. Yet careful and realistic planning, both practical and financial, can help to avoid you and your business becoming just another statistic. Obviously, your first consideration must be whether you have a realistic and viable business proposition. Think about the product or service which you intend to offer. Will you be able to sell it effectively and, more importantly, is there a demand for it within the area in which you propose to operate? You need to research your chosen market and that of your competitors', as their success rate can often be used to estimate yours. Also think about the existing local economic conditions. If the local economy is poor, you need to be aware of this before moving ahead, as this could have a dramatic effect upon the future of your business. Very probably, you will already have decided whether you will set up on your own or whether you wish to form a partnership. You should think very carefully about entering a partnership. Make sure that you are both aiming in the same direction, and remember that good friends do not always make good business partners. In a partnership, whilst both members are entitled to a share of the profits, similarly they are both liable to debts. So, if one partner is unable to pay, creditors can look to the other(s) to settle the bill. This is because, with regard to both sole proprietorships as well as partnerships, the business is legally considered to be an extension of the individual who owns it. If you do form or enter a partnership, always do so with a legally binding partnership agreement. Married couples who go into business together and form a partnership need to be aware of the complications involved if the marriage were to end. In this respect, it is best to plan in advance in the event of a break-up. There are certain advantages in one spouse employing the other. For example, putting the family home in the name of the employee provides protection in the event of bankruptcy if a loan has been taken out against the mortgage. Alternatively, you could choose to form a company or a limited liability partnership (LLP). This is known as incorporation. Companies and limited liability partnerships essentially differ from sole proprietorships and partnerships because they legally exist in their own right. They have all the legal rights of an individual and are responsible for their own debts. Because of this, their owners or shareholders are protected from the company's (LLP's) liabilities or debts. Whereas in non-limited businesses, the owner(s) would be solely liable to any debts incurred, in the case of a company or LLP, the maximum liability which can be incurred can only be the maximum value of the shares. However, creditors can require a personal guarantee of the shareholders or directors, particularly when the company is small. Furthermore, recent legislation means that directors can be made liable for debts if it is proved that they have not acted responsibly and/or have incurred debts where they were aware that they would have been unable to settle such debts. On the other hand, forming a limited company can provide continuity when original owners choose to retire. It also means that shareholders have the option to sell shares if necessary, which can prove advantageous if extra funds are needed. There are considerable taxation differences between these forms of operation. For example, whereas a non-limited business is subject to income tax, a company has to pay corporation tax. In addition, a non-limited business is free to determine its own operations, whereas a company must obtain permission from the Secretary of State to use or do business under its chosen name, and must also follow certain procedures and regulations whereby it is governed with regard to its own powers and rights, its obligations to its shareholders and directors, and how it may trade. Make sure you are fully aware of all the implications involved before making any decision regarding the form of your business.

Insuring your interests

Think about your personal financial situation. How much of your own money are you able to invest in your new venture? Will you need to take out a business loan against your home? You may be giving up a regular salary. If so, remember that money could be scarce during the first few years. Consider also the financial effects upon your family. What would happen if you died or were injured? And how will you provide for your retirement? You will also need to revise your will and think about the implications your change of circumstance may have upon your liability to inheritance tax. Some form of insurance will be unavoidable. For example, you may need to take out life assurance to cover any loan you may have to establish your business, or to buy any major assets such as land. You will need to take out business insurance. Without it, you could lose all of your money, time and effort. Usually, you will want to insure against risks which could be significantly detrimental to your business. This includes protection against fire, storm damage, theft, and general and product liability. Depending on the nature and size of your business, it is often a good idea to self-insure for all or a portion of certain losses. Self-insurance can be accomplished by not buying coverage for incidental risks or increasing the exemptions on policies which you do buy. Often, raising the uninsured amounts can have a very favourable impact on policy premiums. The administrative cost to the insurance company to process small claims is quite high, therefore only insuring for more sizeable claims can make your premium cheaper. You will be legally required to take out employee and public liability insurance. This covers injuries to employees whilst working and to members of the public as a result of your actions. You should also take out insurance on your building, office lease or mortgage. Other types of policies which you may wish to consider include: 1. Business Interruption covers the loss of revenues which your business would generate if you were forced to shut down for reasons beyond your control includes the cost of restarting the business - particularly expensive if you are highly computerised as you may need extra staff to input data or to install more advanced equipment the policy premium must be carefully considered in relation to the potential profits your business might lose if you were forced to shut down operations for a short while 2. Employee Fidelity Bond covers the risk of loss due to theft by employees particularly relevant if your business deals in large amounts of cash, negotiable securities, or similar types of assets certain industries have this insurance required of them by regulatory authorities 3. Umbrella coverage offers a more extensive coverage of the types of business and values insured particularly relevant if your business or you have a net worth which requires protection in the event of a catastrophic loss.

In search of finance

Most people, when starting a new business, have to borrow money at some stage. If you need extra finance, don't just go straight to the bank where you hold your personal account. Ask around to see where you can get the best deal. Choosing a suitable bank is essential. It is important that you establish a good relationship from the beginning as you never know when you might need to ask for just a bit more than they are prepared to give. If you do choose to go to a bank, they will lend you money on the provision that you put up any equipment, property or accounts receivable, as security. The more liquid or readily saleable your assets, the more likely you will be given your loan. Your loan could be in the form of any of the following: 1. an overdraft with annual reviews - This has the added advantage that it allows you to borrow up to a pre-determined maximum as you need it. You will be charged interest or bank charges in relation to how long you have your overdraft and how much you borrow. When you pay the money back is greatly determined by your level of sales and outgoings. 2. a short-term loan payable in full on a specified date 3. a term loan for the purchase of a specific asset e.g. a computer or a machine, usually payable in regular instalments 4. a longer-term loan (5-10 years) payable in monthly instalments - this often works out cheaper and regular payments allow for cash flow planning Of course, banks are not the only source of financing available. There are various types of lease agreements available through which you can acquire equipment. These often last for 3-5 years and will usually demand a higher level of credit risk because they will be looking to the value of the equipment for collateral if your business cannot meet the agreed payments. There are also various grants and loans at cheap rates which are available. These vary according to where the money is coming from, your type of business and your location. It is certainly worth finding out if you would qualify. Alternatively, you could sell an ownership interest in your company, by limiting a partner or issuing additional ordinary shares, options or warrants to investors. (This would only be possible in the case of companies, because non-limited businesses do not deal in shares.) The shareholder sees a return for his investment in the form of dividends or by selling the shares again in the future. Shareholders typically demand some control over how their money is spent, often by voting power and representation on the Board of Directors. In addition to the sources already mentioned, you could look to either a private individual or venture capital company for investment in your business. In any case, you should seek professional advice, as there are many significant financial and legal implications involved.

The business plan

In order to successfully convince anyone to lend you money, you will have to submit a business plan. Although business plans vary from business to business, they should at least contain the following: 1. your unique selling proposition - what makes your business special and why you think it has a decent chance 2. what you will need to set up the business - e.g. premises, equipment, materials 3. a cash flow projection for the next 2-3 years, where you intend to get the money from and why you need it Even if you do not have to submit a business plan for the purposes of borrowing money, you should do one anyway. Carefully thought out business plans can prove invaluable. It is vital that your information is as accurate as possible because not only will this affect whether or not your application for funding is successful, but it will show you whether you should be going into business at all in the first place. Over the page is a checklist to help you with your own cash forecast. It does not cover everything, but hopefully should help reduce the chance of any unforeseen expenditure arising. In any cash forecast: 1. You should consider the timing of payments and receipts, as well as their amount and volume. 2. Most of your start-up costs can be delayed or deferred until you can generate enough money to pay for them. 3. If you assume that you are going to have to pay your expenses sooner and collect your cash slower than you think, not only do you avoid overestimating available cash, but any surprises should be favourable ones.

Cash planning check-list

1. Establish the facts your sales history history of similar businesses you have owned or operated history of the competition seasonal fluctuations of your business relative state of the economy period over which you forecast 2. Examine your level of sales Volume within the next few months of sales within the rest of the forecast period Controllable adding new product lines factors closing down unprofitable operations Cash sales work out percentage of total sales made up in cash sales Credit sales portion of debts number of credit days to be allowed debts which may never be collected whether third parties such as Visa or Mastercard shall take the customer's account and convert it into cash with an appropriate discount 3. Account for any other cash input when you will receive it and how much total of investment money or borrowings needed to operate 4. Look at your outgoing expenses Initial cost of buying/renting furniture costs improvements/deposits for utilities and other services solicitor's fees for drafting partnership agreements or incorporating your business cost to obtain business licences registration with the taxing authorities setting up of an accounting system stationery signs or business logos publicity material cost of research or market surveys Possible any necessary changes to be made to meet the production expansion levels possible need and cost of additional employees additional machinery - cost and expected time of payment Materials money needed to purchase materials either for resale or manufacture/processing Wages how often and in what amounts remittance of payroll taxes Rent how often and how much possible deposit Trade credit inventory items - cash on delivery or payment after receipt? terms expenses necessary to convert purchased merchandise to saleable inventory timing of payments for utilities and supplies upon which your production depends.

Your accounts

When deciding upon how you are going to organise your accounting system, you should always bear the following in mind: 1. Who will keep the books? 2. What information is needed to manage the business? 3. What information is needed for tax purposes? 4. What system would be the most effective? (Be aware that the needs of your business and yourself change. Make sure that your system will be adaptable in the future.) When deciding who will keep the books, it is essential to remember that book-keeping can be very time-consuming. It can be easy to under-estimate the commitment you have to make to other aspects of your business. Usually, if time is needed in those areas, book-keeping can become a low priority to be caught up on later. This often results in incomplete cheque stubs and missing invoices. Think about who will be the users of your book-keeping system. Good accounting systems do not have to be complicated. To be wholly effective, they should be sophisticated enough to provide the information needed, and simple enough for the relevant people to use and understand. At a practical level, you need to decide whether to keep the books manually or on a computer. Computers are particularly useful if you have a lot of routine tasks such as general paperwork or correspondence. They are also useful for written reports, contracts, catalogues and marketing material. There are several very good, user-friendly and relatively inexpensive accounting and general software packages which are available. However, do make sure you thoroughly understand the system before you start as mistakes are much more difficult to trace on computer than on paper. Computers can generate bad information at an alarming rate! Which accounting method should I use? There are two main methods of accounting: cash accounting and accruals based. Cash accounting is simple as almost everyone understands it. You account for expenses when you pay the bills and record sales when you receive the money. The increase in the money in the kitty at the end of the month is how much you have made. However, sometimes you have to extend credit, and there may be times when debts are due, even if the money has not yet come in to pay them. In such situations, cash accounting can prove inadequate. Here, accrual based accounting is more effective. This is because your incomings and outgoings are written up into the period to which they relate. Whichever system you use, you need to ensure that it will adequately supply you with all the information you need both for tax as well as management purposes, and that your accounts are precise and well-organised. Obviously, the extent of your records depends upon the type and size of your business. Yet in all cases you will need to record all receipts and payments of money relating to the business. You should, of course, keep bank statements, paid cheques, paying-in books, receipted bills and similar evidence so that your figures can be checked. You should also keep both your business and personal statements, especially if there have been transfers between your private account and the business. Moreover, you are now legally required to keep for a period of five years, records of: 1. all receipts and expenditures (including details of the matters to which they relate) 2. all sales and purchases of goods 3. all documents such as accounts, books, deeds, contracts, vouchers and receipts Internal Control Internal control has two major purposes: 1. It helps to ensure that the company's assets are properly safeguarded against fraud or errors. 2. It helps to ensure that the financial information produced is accurate and reliable. Internal control is particularly important in businesses which have enough members of staff to mean that work has to be delegated and management must rely upon the staff to keep the records. A series of checks has to be developed to ensure this is being done without fraud or error. Within your business, it may be as simple as numbering the sales tickets and being sure all tickets are accounted for, or reviewing all invoices and time cards before signing any cheques. Later on, as your business grows, you might need to consider segregating authority or having controlled access storerooms. In any case, you should always be confident of the following: that all sales and revenues are recorded in the accounts receivable or that the cash is collected that when you buy goods or services, you can be sure that you receive them.

Records check-list

At the end of each accounting period you will need to know: the takings separate items of expenditure * stock bought for resale * rent * rates * lighting * heating * insurance * repairs to premises * repairs to fixtures and fittings * motor vehicle running expenses * wages and salaries of employees (gross before tax and National Insurance contributions) * employer's share of National Insurance contributions * stationery, postage, telephone amount and origin of private money introduced into the business * cash-in National Savings Certificates * sums received on maturity or surrender of assurance policies * dividends on investments amount of cash taken from the business for your own or your family's use * weekly living expenses amount of any cheques drawn on the business bank account for private purposes, and the reason * buying clothing, life assurance premiums market value of any goods taken from the business for your own or your family's use, not paid for in cash at retail price total amounts owed to you by debtors at the accounting date, and the amount you are owed by each debtor - Trade Debtors total amounts owed by you to suppliers at the accounting date, and the amount you owe to each creditor - Trade Creditors.

The tax element

Sooner or later you are going to have to pay tax. Ignorance of the law will be no excuse. If you do not pay the correct amount of tax, the Inland Revenue can and will prosecute. However, effective tax planning can legally lighten the burden and at the least, you should be able to avoid any unexpected surprises. Before you start your business, make sure you are aware of all the tax implications involved. Firstly, because you need to find out which business format would be the most effective and advantageous. Secondly, because you should be aware of all the allowances and deductions you are entitled to so that you can make full use of them before the beginning. Unless you choose to form a company, you will have to pay income tax assessable on your individual share of the profits. This contrasts with incorporated businesses (companies) which are liable to corporation tax based on the profits of the business itself. When you begin your operations, you should put money aside on a regular basis, so that when your tax demand arrives you are able to pay it. Income tax applies to both sole traders and partners. In partnerships, a partner's share of the profits is viewed as being derived from a separate individual trade carried on by that partner alone. Partners are therefore more or less treated as sole traders. Their particular 'trade' starts and ends when a partner joins or leaves. When you pay income tax, you are treated as being self-employed. However, you should check this, as sometimes the distinction between being employed or self-employed can become complicated. You may also be required to charge VAT. You should check this as if you are eligible, you will have to register within a certain time limit.

Start-up check-list

By now, you should be able to answer 'yes' to all of the following:

1. Have you researched your market?
2. Have you sought professional advice, particularly if you wish to trade under a name other than your own or are going into partnership with someone?
3. Have you looked at insurance and pensions? As with anything you buy, shop around to see which suits you best.
4. Have you revised your will?
5. Have you worked out how you will finance your venture?
6. Have you worked out a business plan?
7. Have you decided which kind of accounts system will you use? Do you need to buy a computer and/or software package?
8. Are you fully aware of the tax implications of your new venture?

The next step

If you have any questions or would like to discuss any area in further detail, then please feel welcome to contact our principal John Baty on 01423 563671 who will arrange an introductory appointment. We look forward to meeting you.