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Money in, money out

Financing your startup, and extracting the profits

So inspiration has struck, and you've got a business idea. With a bit of luck, it's a unique one and will make you some money. You'll probably want to structure your business to keep hold of as much money as possible - that's not always easy.

There are several options, each with its advantages and drawbacks. You'll want to consider the following choices:

Self-employed or sole trader: If you have no intention of employing anyone this is a reasonable approach. This article is written by a freelance, self-employed person. The advantages include complete flexibility; you're under few reporting obligations outside a special page on your tax return and VAT registration once your turnover reaches the right level. On the minus side, your turnover is classified as your own money, so if you go into the red or run up debts then you personally are liable for them.

Partnership: This is like a multiple-person sole tradership except it exists as a legal entity in its own right. This doesn't afford any financial protection and all partners have total rights, so if a partner takes out a load of money from the partnership account there's nothing you can do about it.

Limited company: This is the one with most reporting obligations – you must register with Companies House and you must submit an annual return. If the company makes a loss, though, and goes broke, then as long as you haven't offered guarantees to bankers and financiers then it's the company's money and not yours that can be accessed by the creditors.

We've got two articles on bCentral that give you full information about the advantages and disadvantages of each of these options: one on being a sole-trader or forming a partnership, and one all about forming a limited company.

Raising money

Michael Smith, firebox.comGetting money to start up can be tricky. Michael Smith started gadget site Firebox.com with �1000 from his mother before raising a further �500,000 from venture capital, and he confirms that financiers will take you more seriously if you have money of your own in the company at the outset

"It's best to take the business as far as you can with your own money before you approach equity investors," he says. "The more developed the business, the better valuation you will attract. The small firms loan guarantee scheme is an excellent way for entrepreneurs to raise up to �100,000 to get them going without having to give up any equity."

It can be tempting to raise money by taking out a second mortgage on your home. This can work, but bear in mind the experience of entrepreneurs in the 1990s who saw their homes fall in value but still had to pay back the loans.

Exit route

The other thing you need to consider is an exit point. Many people start a business without any real objective. "For most entrepreneurs the aim is to grow and run a business that they are truly passionate about, so very few people set a definite exit point right at the start," says Smith. He adds, though, that once financiers are on board it can become all-consuming.

Quote�Throw all your energy into building an amazing business.�End Quote
Michael Smith, Firebox.com

"Too many entrepreneurs build businesses with the sole plan to sell it as soon as possible," he says. "A more sensible strategy is to throw all your energy into building an amazing business. If you succeed, then offers to float or sell will always be close by."

Finally, two thoughts. Viewers of BBC2's Dragon's Den might have seen 'Dragon' Rachel Elnaugh dismissing a seller of baby accessories as a ‘lifestyle business' and not an investment. To someone wanting to make millions this is of course a bad thing. To others, a business that supports a desired lifestyle is fine – sort out your objectives before assessing whether your business is going to make them happen for you.

Second, if you're going into partnership with someone, remember you need to trust them - perhaps more than you would your spouse. One partnership, which had better remain anonymous and has nothing to do with anyone else quoted in these articles, performed extremely well until five years in, when one of the partners went slightly peculiar. "He got religion, big time," explains the remaining partner. "And started giving all of our money away. There was nothing I could do about it legally except get some backing quickly and buy him out..."

It's a good example of some hard facts: one, it's easy to fall out over money, and two, running a business is real life, not a game. Protect your personal investment, and cover all weak links in your finances if you can.

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What next?

We've got information on lots of sources of funding, including grants, venture capital and business angels.

Have you decided on a company structure? We can help you decide between being a sole trader, partnership, or limited company.

Is your business plan up-to-date? Read our advice about reviewing and revisiting it.

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