In 1811, the state of New York passed a law providing for a form of limited liability for manufacturing companies. The concept of transferring legal liability from people to other entities was not new. In fact, limited liability had been available to certain entities (notably trade guilds) in a relatively structured fashion since the 15th century. In 1811 however, the concept of allowing the promoters of a purely profit making entity to absolve themselves of risk and transfer any liability incurred to their trading vehicle was quite novel.
Fast forward to the current day and the most recent annual report of the Companies Registrations Office (the CRO) notes that there were 14,009 new companies incorporated in Ireland in 2012. By the end of 2012, the total number of companies incorporated in Ireland stood at over 185,000. The private company, limited by shares, has become the most popular way to carry out a commercial enterprise in Ireland.
An entrepreneur starting out with an idea for a new venture will almost certainly have to pause at some point and consider what sort of legal structure they wish to use to promote their activities. Broadly speaking, there are three obvious options. They can trade as a sole trader, incorporate a company limited by shares or form a partnership.
Although there are advantages and disadvantages to each approach, in most circumstances, it will be most beneficial (or at least, less risky) to incorporate a private company limited by shares. The key advantage of a private company is that the company has a separate legal personality.
This means that where the company incurs a liability of some sort (including a debt), that liability sits with the company, rather than with the people who are running or promoting the company. The separate personality is theoretical in the sense that there are a limited number of instances where this separate legal liability is interfered with by statute. This is known in legal parlance as “piercing the corporate veil”. Piercing the veil allows a court to look behind the separate legal personality of the company and attribute liability to the promoters of the company in their personal capacity. Examples of where a court might order the corporate veil to be pierced are rare (and have in the past included cases of fraudulent or reckless trading by directors). Notwithstanding those rare examples, the courts have consistently recognised the separation of a private company from its members.
Trading as a sole trader has certain advantages over trading using a company. Firstly, there are no administrative steps to be taken or official fees to be paid (aside form a requirement to register as a self-employed person with the Revenue Commissioners). A sole trader does not have to file annual returns with the CRO nor will they be subject to the various restrictions and shareholder protection measures found in the Companies Acts. In summary, they have more freedom and flexibility to operate.
Persons trading as sole traders may wish to consider registering a business name with the CRO (in fact, registering a business name is mandatory if you are trading under a name other than your own name). Registering a business name is sometimes confused with being registered as a company with the CRO but the two are quite distinct.
The key and most important difference between a sole trader and a private company limited by shares is that where a sole trader incurs a debt, this liability will rest with them personally. Sole traders should carefully consider the consequences of this (especially before entering into detailed contracts with companies or financial institutions). They might however, in some circumstances, find it easier to secure financing or credit on the basis that their liability will be unlimited.
Partnerships are another popular method of trading. They are particularly popular among professionals (for example, most solicitors’ firms are set up as partnerships rather than as companies). A partnership is at its essence a group of sole traders who have banded together. A partnership is usually governed by a partnership deed (which is not dissimilar in theory to the shareholder’s agreement which might govern the relationships between shareholders in a private company). The key distinction between a company and a partnership is that, like in the case of the sole trader, the partnership takes personal and collective liability for any debts that the partnership incurs. In recent years, partnerships were also popular vehicles for investing in property.
The three options set out above should not be taken as exhaustive. Depending on the nature of the enterprise that is being undertaken, another structure might be more appropriate (for example, a lot of charitable bodies choose to incorporate as companies limited by guarantee). In any discussion on companies in Ireland, it would also be remiss not to mention that the Companies Bill 2012 (which is due to be passed later in 2014) will introduce a new model private company limited by shares and simplify and improve the law applicable to private companies.
At the early stages of any new venture, there are clearly lots of important decisions to be made. Understanding the different opportunities and protections offered by your choice of trading entity is one of these and definitely worth taking some time to consider.
