the importance of limited liability
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the_importance_of_limited_liability_workbook.docx | |
File Size: | 80 kb |
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4.2_over_to_you_case_study_questions.doc | |
File Size: | 86 kb |
File Type: | doc |
Key term - SOLE TRADER (OR SOLE PROPRIETOR) - The only owner of a business which has unlimited liability. Their accounts do not have to be published publicly.
A sole trader is the only owner of their business. There are nearly 4 million sole traders in the UK. Sole traders might be farmers, plumbers, electricians or shop owners. Sole traders have unlimited liability.
Key term: UNLIMITED LIABILITY - A legal obligation on the owner of a business to settle (pay off) all debts of the business. In law, there is no distinction between what the business owes and owns and what the business owner owes or owns.
The owner and the business are seen as the same thing. This means, if a sole trader uses their credit card to buy supplies for the business, or takes a potential customer out for dinner, then they are personally liable to pay that bill. This is very important when it comes to borrowing money. If a sole trader borrowed £300,000 to buy an office, they are personally responsible for paying back the loan. If they cannot afford to do it, they may have to sell their house and other personal possessions in order to pay this bill. Unlimited liability therefore creates personal risks for sole traders. If their business does badly and makes a loss, the sole trader is personally responsible for all the debts of the business.
Most business start-ups choose to become sole traders. This is because it is easy to set up and run compared to other forms of business ownership. Being a sole trader means that someone can own their own business. They do not have to share ownership of the business with anyone else. All of the profits go to the sole trader. This means that when they are successful, they get all of the rewards. They have complete control of the business.
Key term: INCORPORATION - the process by which a new or existing business registers as a limited company. A company is a legal entity with a separate identity from those who own or run it.
Key term: COMPANIES - Business whose shareholders have limited liability. These are either a Private Limited Company (Ltd) or Public Limited Company (PLC), They have to publish their accounts.
A business owner can choose to make their business into a private limited company. Owners of this type of business have limited liability. This means that the owners of the business are only partly responsible for paying any debts of the business. It also means that the finances of the business are legally separate from the finances of the owners of the business.
Key term: LIMITED LIABILITY - When shareholders of a company are not personally liable for the debts of the company: the most they can lose is the value of their investment in the shares of the company.
Businesses that have limited liability are called companies in the UK. The owners of a company are called shareholders. There must be at least one shareholder in a private limited company. Shareholders have limited liability. This means that the personal finances of the shareholders are completely separate from those of the company. If the company gets into financial difficulties, the shareholders can lose what they invested in the shares of the company in the first place. But this is the limit of their liability. They are not personally liable for any more of the debts of the company. This means that if the company is forced to close, the shareholders cannot be forced to sell their personal assets to pay off the debts.
There is a number of differences between LTDs (private limited companies) and sole traders.
Risk
Limited liability means that owning a company is less risky than being a sole trader. A shareholder can only lose what they have put into the company. Sole traders can lose everything.
Control
A sole trader has complete control over there business, whereas a shareholder in a company has as much control as their shareholding dictates e.g. 80% or 20%.
Profits
In an LTD, the shareholder gets the share of profits that equals their shareholding in the company. A sole trader gets all the profits.
Privacy
LTDs must, by law, file their accounts each year with Companies House. Their accounts are a record of the value of their sales, their costs and their profits for a 12 month period. These can be seen by anybody who pays a small feel to Companies House to see them. In comparison, no private individual or business has a right to see the accounts of a sole trader. Being a sole trader gives you more privacy.
Risk
Limited liability means that owning a company is less risky than being a sole trader. A shareholder can only lose what they have put into the company. Sole traders can lose everything.
Control
A sole trader has complete control over there business, whereas a shareholder in a company has as much control as their shareholding dictates e.g. 80% or 20%.
Profits
In an LTD, the shareholder gets the share of profits that equals their shareholding in the company. A sole trader gets all the profits.
Privacy
LTDs must, by law, file their accounts each year with Companies House. Their accounts are a record of the value of their sales, their costs and their profits for a 12 month period. These can be seen by anybody who pays a small feel to Companies House to see them. In comparison, no private individual or business has a right to see the accounts of a sole trader. Being a sole trader gives you more privacy.
Advantages of being a sole trader:
Disadvantages of being a sole trader:
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Advantages of being a private limited company (Ltd)
Disadvantages of being a private limited company (Ltd)
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Task: Please put these into a table.