Frequently Asked: Legals

In our Frequently Asked series we reach out to industry experts to answer the most common questions we get from North East SMEs. This time, we approach legal expert Muckle LLP.

From agreeing your first supplier contract to protecting your tech’s IP, understanding your legals is one of the key fundamentals to running a business.

We spoke to the folks at Muckle to discuss the questions we frequently get asked by entrepreneurs.

Should I set up a limited company straight away or can I start as a sole trader?

There are a number of factors to consider when deciding whether you should set up as a sole trader or incorporate as a limited company.

A key point to be aware of when you are a sole trader is that you and your business are legally one and the same. However, if you incorporate as a limited company the company is a separate legal entity and this can have both pros and cons.

From a legal perspective, one of the key benefits of incorporation is that you have limited liability protection. Due to the fact that a limited company is a separate legal entity, the company owns the assets but also is responsible for any of the debts including employment costs and other bills. Any debts therefore sit with the company rather than with the sole trader as an individual.

There can also be tax benefits on incorporation as limited companies do not have to make income tax payments on account and limited companies also pay corporation tax on profits which is at a lower rate than income tax and they don’t pay national insurance. Depending on the business, there are also certain tax reliefs that you may be able to claim.

In terms of exit planning, possibly the most important reason for becoming a limited company is that as the business grows, limited companies attract investment more easily. Banks, angel investors, funds and trade buyers are all more likely to invest and/or acquire you as your business grows if you are structured as a limited company.

It should be noted that limited companies have directors, who have their own directors’ duties and obligations which are governed by the Companies Act 2006. If you fail in your legal responsibility as a director, the consequences can be serious. However, there is training out there for directors to help guide them through their liabilities and responsibilities and the obligations need not be onerous.

Limited companies also need to file information about the company and their accounts. This information is in the public domain. Sole traders are not required to provide this information to the public.

Finally, as well as having potential tax benefits there can also be some tax liabilities or tax costs associated with limited companies. In particular, as a director of a limited company you can no longer freely draw money out of the business bank account but you might have to do so through salary, loans or payment of dividends if you are also a shareholder.

Ultimately, it depends on the structure of your business and where you want to get to. Speaking to your tax and legal advisers on this is always worthwhile. From a legal perspective, if you had to choose between a sole trader and a limited company and you are looking to grow your business, a limited company would make the most sense.

I’m a start-up. How do I protect myself from other people stealing my ideas?

If you want to engage with another business to provide services to you, or you want to collaborate then ask them to sign an NDA (Non-Disclosure Agreement) before you give them business sensitive information. If both parties will be exchanging information, then a mutual NDA means you are both protected by contract.

With respect to intellectual property, then it depends. If you can protect something (e.g. a logo or name) and it's business critical, then make sure you do. If it isn’t able to be protected (e.g. code, as it is copyright), then make sure you have good employment contracts in place for your employees, and only give out information on a ‘need to know basis’ or under NDA.

How do I negotiate with a CTO over their share allowance?

It is becoming more and more common for CTOs to be brought into a growing business and for them to ask for a large share percentage.

This has not always been the case and the starting position with equity is usually to try not to give too much away at an early stage.

As your business grows and you look for investment it may be that you do this via equity investment, in which case you will be looking to reduce the amount of equity that you hold in the business and give this away to your investors, so you want to make sure you have enough to achieve this.

If a CTO is coming on board and wants a percentage of equity there are several things to consider:

It is key to ensure that if the CTO were to leave the business, that the equity does not go with them, but that it is retained and/or bought back by the company on their leaving.

It may be that the CTO receives some equity now in which case, if they are a current shareholder, you need to consider putting in place a shareholders’ agreement and articles of association to protect yourself and the business.

It may be that the CTO achieves equity on the achievement of certain hurdles, e.g. financial.

Alternatively, it may be that the CTO receives options over shares, which either can be exercised during the growth of the business or on an exit event, i.e. a sale of the company.

It’s important to understand all the choices that you have as a business owner and talking through them with your tax and legal advisers will ensure that you are put in the strongest position going forward for yourself and the business.

Should I always use an NDA? Are they even legally binding?

NDA’s are not necessary in every circumstance. However, if you have an idea which you are conscious could be the next big thing, or you don’t want others to share it then an NDA will give you the contractual comfort to share it – they are legally binding provided you ask someone to draft one for you properly. It is important to remember that an NDA will not stop someone from disclosing your information to someone else, especially if they have no regard for the contractual terms. It gives you contractual recourse against someone that you can prove has breached the terms and can be a deterrent but that’s it.

One from us…What would be your number one legal tip for young tech companies?

Look after your IP! Make sure you keep track of your IP, protect it where necessary, ensure the IP sits in the right place as this will be key for exit plans (i.e. with the company and not an individual or another company) and be careful you don’t accidentally give the rights away.

Finally, can you tell us about specific support you can provide for tech companies?

We offer a service called Mi Business which is £350 plus VAT per month for 24 hours legal advice – used however you like! You get some valuable freebies too. For more information about MI business, visit our website