Doing Business in the U.K.

Doing Business in the U.K.

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SECTION 1: INTRODUCTION

SECTION 3: DOING BUSINESS IN THE U.K.

SECTION 2: ESTABLISHMENT IN THE U.K.

2.1 Choice of Business Structure
2.1.1 Forms of business structure
The forms of business structure most commonly used in the U.K. are the limited liability company, partnership, sole trader (i.e., self-employed individual) and the branch or agency of a foreign company. Although the limited partnership exists under U.K. law, it is rarely used in practice, since the legislation relating to it dates back to the early part of the century and it has never had the tax advantages or the attractiveness as a form of investment, which the limited partnership has enjoyed in the U.S. In general, when advising businessmen as to the appropriate form of entity through which to trade, similar considerations will apply to the U.K., as they do in the U.S. Accordingly, this section will only deal with those considerations less familiar to U.S. practitioners.
2.1.2 The Limited Liability Company
2.1.2.1 Private & Public Companies
The two principal types of limited company provided for under the U.K. Companies Acts, are the Private Company Limited by Shares and the Public Limited Company ("PLC"). Only PLC's are permitted to offer their shares generally for sale to members of the public. As a consequence, the Companies Acts impose greater restrictions and requirements on PLC's. However, many PLC's exist as wholly private companies, whose shares are never traded on any exchange. Many businesses prefer the PLC form, since it gives them greater status in the market place. However, the practitioner should not be fooled. Although a PLC is required to have an issued share capital of 50,000, only a quarter of this, 12,500 need be paid up in cash. Accordingly, although the paid-up share capital of a private limited company may only be 1, it may in fact be of far greater substance than many PLC's.

2.1.2.2 Public Information
The principal difference between the U.K. limited company and the U.S. corporation is transparency. The U.K. limited company was conceived as one of the most flexible commercial vehicles ever devised. Shareholders and directors (who, with the secretary, are the sole officers of U.K. companies) have almost limitless powers to structure the business as they choose, subject only to completing and filing the required documents, in the required place at the required time. Share capital can be expressed in any currency and in any denomination and may consist of limitless classes, each having different rights. The capital structure can be changed at will, as often as wished, and without any taxation consequences. There is no limit to the type of activity that a company can undertake and in particular, since the Companies Act 1989, which permitted the objects of a company simply to be stated as "a general commercial company", the doctrine of ultra vires is practically dead.
However, the corollary to this freedom of action is a level of formality, and disclosure requirements not known in most U.S. jurisdictions. Every U.K. company must make regular filings with the companies registry of its particular jurisdiction (located in Cardiff for England and Wales, Edinburgh for Scotland and Belfast for Northern Ireland). Such filings include details of the appointment and resignation or removal of every director of the company, together with each director's address, date of birth, occupation and a list of all other directorships which they hold or have held during the previous five years. A full shareholders' list must be filed every year, including details of all transactions in the shares. A copy of every special, extraordinary and elective resolution (being resolutions required by the Companies Acts to be passed with a 75% majority) must be filed. The Companies Acts require special resolutions to be passed for a wide range of corporate acts, including those effecting changes to capital structure, the Memorandum and Articles of Association (Certificate of Incorporation and By-Laws) and the repurchase or redemption by a company of its own shares. Most importantly, every company must file annual financial statements or accounts, which, in the vast majority of cases, will need to be audited by a registered auditor.
Accordingly, it is axiomatic practice when first dealing with any company, to obtain a search report from the relevant companies registry. This should show who owns and manages the company, give some indication of its finances and also disclose other matters such as mortgages and liens over its assets. This is obviously vital information for potential suppliers and others proposing to enter into business relationships with the company.

In practice, however, such searches are often not so revealing for a number of reasons. Many small companies simply do not comply with their statutory obligations, or comply very late. This, notwithstanding determined efforts by the various registrars of companies to enforce compliance using a computerized "tickler" system, often leading to prosecution and fines. Secondly, in order to ease the burden of compliance for smaller companies, they are permitted to file simplified and abbreviated financial statements, which really only give an overview of the business. Thirdly, there is nothing to stop an owner using nominee shareholders and directors, so that the true owner's names do not appear on the company's file. Their anonymity will thus be protected from the general public and casual observer.
The appointment of nominees may not, however, protect owners from any governmental or regulatory scrutiny, or personal liability for misfeasance, if they are deemed to be "shadow directors," namely persons in accordance with whose instructions the directors are accustomed to act. In such case, they will be deemed to have all of the same duties and obligations as the formally appointed directors. This applies in particular, in insolvency situations. Directors of U.K. companies, including shadow directors, may be held personally liable and subject to disciplinary, as well as criminal proceedings for a wide range of misconduct, including continuing to incur liabilities at a time when it was, or should have been apparent, that the Company would not be able to pay its creditors, even following a liquidation.
Thus in order to have the benefit of limited liability the business must accept that, to a certain extent, persons dealing with it are entitled to have a greater level of information about its internal affairs and financial status, than that to which U.S. businesses are accustomed.
2.1.2.3 Corporate Taxation
All bodies corporate (U.K. incorporated companies and corporations established in other jurisdictions) are liable to pay corporation tax on their profits. If the body corporate is deemed to be resident in the U.K., then it is taxable on its world wide income. Any company incorporated in the U.K. is automatically deemed resident in the U.K. for tax purposes. Foreign corporations may be determined to be resident, if the "central place of management and control" is determined to be in the U.K. The Inland Revenue, will look not only at such factors as where board meetings are held and the residences of individual directors, but also at how the company is actually managed and whether that takes place in the U.K.
Under the present system, there are three tax rate bands, which for the year 1994/95 are as follows:

Profits	Tax Rate	Name
Up to 300,000 300,001-$1,500,000 1,500,000+	25% 35% 33%	Small companies rate Marginal Rate Full Rate

The marginal rate band operates as a sliding scale, which increases the rate of tax, from the small companies rate to the full rate, as a company's profits grow.
Presently, corporation tax is payable 9 months after the company's year end. However, in practice, it is legally not due and no interest or penalties accrue, until 30 days after Inland Revenue issues an assessment, which may be much later. A new payment and return system will be introduced for accounting periods ending after March 31, 1996, known as "pay and file." Under that system each company will have to pay corporation tax due, on an estimated basis, within 6 months after its year end and file the tax return within 9 months after its year end.
2.1.2.4 Taxation of Dividends
Dividends and distributions paid by U.K. companies are subject to a particular form of withholding tax, called Advance Corporation Tax ("ACT"). No equivalent to the U.S. "S" Corporation exists in the U.K. and accordingly, the company is liable to tax on all of its profit and shareholders are only liable to tax upon the amount of dividends and distributions received (with certain very limited exceptions, where anti-tax avoidance provisions apply). From 5th April 1994 a company is liable to pay ACT equal to one-quarter of the amount of the dividend paid. (i.e., if the shareholder receives a dividend of ś100, the company must pay ACT of ś25). ACT can be offset against the corporation tax liability of the company on the profits of the period in which the dividend was paid (subject to a maximum of 20% of taxable profits). Any excess which cannot be so offset, can be carried forward indefinitely against future tax liability or back for six years against any past tax liability.
In the hands of the individual shareholder, the dividend is treated as received gross, i.e., the amount of the dividend actually received plus the amount of the ACT "withheld" (in the above example, ś125.00) and the shareholder also receives a tax credit equivalent to the amount of the ACT (in the above example, ś25.00). An individual not subject to higher rates of taxation will not be liable to pay any further tax on the dividend. Dividends received by other U.K. resident companies or U.K. branches of foreign companies, are exempt from corporation tax and are, therefore, tax free to such entities. If dividends are paid to a U.S. shareholder then, pursuant to the double taxation treaty, the U.S. resident shareholder will be entitled to the same tax credit (or in some cases a proportion of the same tax credit), as is available to U.K. resident shareholders, subject to a notional withholding tax which varies, but may be as low as 5%, depending on the extent of the shareholding in the U.K. company.
Since ACT is only offsetable against U.K. corporation tax, a particular problem arose for U.K. companies which had extensive foreign earnings from foreign subsidiaries or branches. Foreign earnings were taxed in the relevant foreign countries and by virtue of double taxation relief or treaty, little or no U.K. corporation tax was payable on those earnings. Accordingly, many companies were building up vast sums of unrelieved ACT, commonly referred to as the "ACT Mountain", which they were unable to offset against their corporate taxes, since they had insufficient U.K. earnings.
Accordingly, the government has proposed legislation to alleviate the problem in the Finance Bill 1994. The new provisions will permit such companies to "stream" their foreign income and pay dividends out of that income ("Foreign Income Dividend" or "FID"). The company will still be liable to pay ACT on FID's but may reclaim or offset it, on proof that the dividend was paid out of foreign source income. Furthermore, if more than 80% of a company's shareholders are non-resident and each owns more than 5% of the share capital, the company can qualify as an International Headquarters Company ("IHC"). IHC's will not have to account for ACT on any Foreign Income Dividends. In the hands of the recipient of an FID, the usual credit for the amount of ACT paid is not available.
2.1.3 Branch
As an alternative to establishing a U.K. subsidiary a U.S. corporation could simply establish a branch in the U.K. However, this will still involve filing requirements, including details of directors and the filing of annual accounts. The particular advantage of a branch over a U.K. incorporated subsidiary is with regard to taxation and repatriation of profits. A U.K. incorporated company is deemed resident in the U.K. for tax purposes and is thereby subject to taxation on its worldwide income. A branch is only subject to taxation upon income arising from activities of the branch and the remaining activities of the corporation are not subject to the filing of U.K. tax returns or payment of U.K. taxation. Furthermore, since a branch is part of the same entity as its U.S. parent, repatriation of profits is tax neutral and is not subject to any U.K. withholding tax. It should be noted that, as in the U.S., transfer pricing is of significant concern to Inland Revenue and all internal trading arrangements need to be very carefully considered.
The disadvantage of the branch, is that since it is part of the same entity as the U.S. parent, recourse may be had to all of the assets of the U.S. corporation in the event of any claims against the branch. A U.S. corporation which is merely a shareholder in the U.K. limited company, will of course, have the benefit of limited liability for the debts and obligations of the U.K. company. That said, this protection is of little help in certain areas, particularly product liability, where numerous successful cases have been brought in the U.S. against manufacturers of products distributed in the U.K. by U.K. limited liability subsidiaries.
2.1.4 Partnerships and Sole Traders
These do not have the benefits of limited liability, but neither are there any formal legal requirements relating to their establishment or business obligations. There are no public filings of information about unincorporated entities, equivalent to those for companies. From a tax point of view, partnership or self-employed status used to be particularly beneficial because of the peculiar "preceding year basis" of taxation applicable. Under that basis, it was quite legally possible to postpone the payment for taxes on income earned in any year for up to nearly two years. However, under recent legislation, this is gradually being phased out and such businesses are being moved to a basis very similar to that prevailing under the Internal Revenue Code, under which taxes are payable on an estimated basis, by reference to income earned in the current tax year, with severe penalties for late filing and payment.
2.1.5 Foreign Investment
If the U.K. activity is simply going to be the holding of an investment, for example, real estate or shares, then care should be taken to avoid establishing any U.K. presence whether through an office, or by the appointment of an agent with discretionary authority to legally bind the U.S. entity, which could result in the owner being deemed resident for U.K. tax purposes. Non-resident persons are not subject to any tax on capital gains arising on the sale of U.K. investments. It should be noted that the U.K./U.S. Treaty, permits a person or entity to be dual resident. A common example of this is a U.S. national or permanent resident individual who takes up permanent residence in the U.K. Unless and until U.S. nationality or permanent residence is surrendered, such an individual would be resident for tax purposes and subject to tax on world wide income in both countries. Double Taxation Relief will be available to mitigate any tax liability but it is complex and the taxpayer will still be required to file returns in both countries.
2.1.6 Raising Capital
If it is going to be necessary to raise equity finance for the U.K. business, then the PLC is the only vehicle available. As stated above, PLC's are the only types of entity which can offer their shares to members of the public. Pursuant to the Financial Services Act 1986 ("FSA"), "the public" is very broadly defined and includes almost any group of people (however small) who are not intimately known to the owners and promoters of the company.
In order to offer shares for sale, whether or not they are going to be traded on any stock exchange, a prospectus complying with the provisions of the FSA will be required to be prepared and filed with the Registrar of Companies. A prospectus must be approved by a person authorized to carry on investment business pursuant to the Financial Services Act. Many types of professionals are so authorized either directly by the Securities & Investment Board, the statutory authority created by the FSA or by the various self-regulatory organizations, such as The Securities Association ("TSA"), which governs members of the London Stock Exchange and the Investment Management Regulatory Organization ("IMRO"), which governs investment managers. Solicitors and chartered accountants are also authorized by their relevant professional bodies to approve investment advertisements and offers.
Securities regulation in the U.K. is in a state of turmoil at present. Prior to the FSA, there was very little statutory regulation and the securities industry was largely governed by the codes of conduct of the organizations of the various professions doing business in the City of London. The FSA established an overburdensome regulatory regime, and the system is now creaking under the strain. Following certain spectacular recent failures of regulation, in particular with regard to the alleged looting of pension fund assets by the late Robert Maxwell, which went completely undiscovered by the regulatory authorities, numerous proposals have been floated for restructuring the regulatory regime and a heated debate continues.
However, it is still possible to raise capital relatively cheaply, off market, although clearly, it may be more difficult to find potential investors.
2.1.7 Relations Between Joint Owners
Where the business venture involves more than one principal it is vital at the outset to establish a proper structure for decision making, ownership rights and profit sharing, and dispute resolution between the owners, whether through a shareholders agreement, partnership agreement or joint venture agreement. Although the Companies Acts provide significant protection for minority shareholders from oppression or unfair prejudice by majority shareholders, partly by way of super majority voting requirements and by extensive rights of recourse to the High Court, in order to avoid expensive and time consuming litigation practitioners are advised to ensure that their clients enter into proper agreements with their partners.
Such protective provisions and the corporate governance and decision making structure of the limited company, simplify the preparation of such an agreement. On the other hand, a partnership or joint venture agreement will need to deal with every aspect of the operation of the business and the relationship of the owners, due to the relative lack of statutory regulation.
In principle, such agreements will need to cover the same areas as in the U.S., such as provisions relating to the transfer of shares or ownership interests and minority protection provisions with regard to decision making. Particular attention will need to be paid to those areas affected by the particular legal and economic structure of U.K. business entities. Dispute resolution devices such as put and call options, "Shot Gun" clauses and other buy-out provisions are commonly used but these will need to be drafted by U.K. practitioners, in order to ensure that they will be effective and enforceable by the U.K. courts. Furthermore, detailed advice will be needed in such areas as non-competition restrictions which, when dealing with large enterprises, may be affected by EU Law and, therefore, subject to intervention by the European Commission. Even smaller enterprises need to be concerned with the application of the Restrictive Trade Practices Act, which prohibits certain types of non-competition or exclusivity agreements, or requires them to be filed, failing which they may be void.
2.2 Location
The decision as to where in the U.K. to locate the new enterprise will involve numerous economic, commercial and social factors, most of which are beyond the scope of this work. However those advising businesses establishing in the U.K. should also consider the various incentive schemes offered by both national and local government, as well as the EU. These are intended to promote the development of particular disadvantaged or under-developed areas of the country.
Here follows a brief summary of some of the schemes available to foreign businesses, which is based upon information provided by the British Trade and Investment Office in New York. Each project will require individual assessment and appropriate enquiries should be made at an early stage, since certain grants are conditional on a showing that the project would not proceed without them.
2.2.1 Regional Selective Assistance
This is available, if the project is in an "Assisted Area" and principally consists of Project Grant. Each grant is based on the capital cost and the job creation or job preservation potential of the project, usually over the first three years. It is necessary to show that the project (a) is likely to be profitable; (b) will create or safeguard employment in the Assisted Area; (c) will benefit the regional and national economies; and (d) will not be able to proceed without the grant. However, the majority of finance is expected to come from private sources.
The grant is available for various costs associated with the acquisition and improvement of the site for the project and the establishment of the operation. Project Grant is usually payable in three installments, depending on the extent of project implementation and job creation.
2.2.2 Government Premises
Within Assisted Areas, a number of commercial and industrial properties may be available for purchase or lease from the government. Premises range from small workshops to large factory units, suitable for a range of industries. Terms will be in accordance with local market conditions but almost by definition, real estate in Assisted Areas will not command premium prices and rents.
2.2.3 Enterprise Zones
The U.K. government has designated a number of areas as Enterprise Zones, which offer tax advantages and streamlined real estate development controls, to businesses establishing themselves within the zone. The zones were designed to run for ten years from the dates of their respective designation and although many zones were established in 1983/84, a number have been designated since 1989.
The principal benefits for businesses available in an Enterprise Zone are: a) Exemption from Local Authority Rates, b) 100% capital allowances for investment in industrial and commercial buildings (i.e. the capital cost may be deducted against income for taxation purposes) and c) Simplified planning (zoning) procedures, in order to encourage development generally. If the Enterprise Zone is also in an assisted area then RSA may also be available.

2.2.4 Local Assistance
Pursuant to various national and local powers, local authorities can provide additional assistance to businesses being established in their area, whether by way of grants or loans for the acquisition and improvement of land and buildings; grants to assist the payment of rent on leased premises; grants for the regeneration of inner city areas, provided the project will result in new jobs, industrial space or housing and discretionary, partial or total relief from local authority rates.
In view of the variety of grants and loans on offer and the discretionary powers of local authorities, it is advisable to consult and negotiate with the relevant local authority at an early stage in any project, in order to maximize the benefits for all concerned.
2.2.5 Northern Ireland
The government has made investment in Northern Ireland a major priority. Accordingly, some of the highest levels of financial incentives and assistance are available for businesses establishing operations in Northern Ireland. The Industrial Development Board for Northern Ireland (IDB) is responsible for administering and coordinating the various schemes and projects.
Some of the benefits available are industrial development grants, providing up to 50% of the cost of new buildings, machinery and equipment; employment grants, rent grants; and interest relief grants (in order to subsidize loans from private sector financiers). Secured loans and, in some cases some form of equity participation may also be available.
In addition, there are various management and employee grants, which are intended to enable the company to attract and train top quality management and labor force. Various tax benefits are also available, as outlined above.
In all cases the key elements which will need to be shown to IDB, are that the project has substantial prospects for job creation and structural improvement in Northern Ireland. In many cases, grants are payable only upon achievement of certain targets in these areas.
2.2.6 Finance from EU
Through the European Investment Bank (EIB) the European Regional Fund and the European Social Fund, various types of assistance are available to qualifying projects.
In general, assistance from the EU will be available to finance industrial or infrastructure projects which can be shown to assist regional development. A number of regional development areas have been designated by the EU and businesses must locate within these areas in order to obtain the relevant benefits.
Since most loans are designated in European Currency Units (ECU) which are calculated by reference to a basket of the currencies of the member states, there are exchange risks involved. However, the government has established the Exchange Risk Guarantee Scheme, pursuant to which borrowers for qualifying projects take on only the sterling liability, with the government bearing the exchange risk.

GO BACK TO INDEX

SECTION 1: INTRODUCTION

SECTION 3: DOING BUSINESS IN THE U.K.

Copyright 1994, THE AMERICAN BAR ASSOCIATION. Reprinted with permission.
This article was prepared by Beck & Arad, LLP, a New York-based law firm dedicated to serving the needs of domestic and international business clients. The content of this article was designed to provide general information on the subject matter covered. No legal or other professional advice or option is being rendered. Any liability or loss incurred as a consequence, directly or indirectly from the use or application of the information contained herein, is specifically disclaimed.
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