By David Ladds Lecturer in Law, King's College London

Finding the right legal basis for your start-up could save you a big tax bill. BBC News Online provides a few pointers for dealing with red tape.

Okay, so you have your idea. You've researched your market, had tentative discussions with potential customers, and set about converting the spare room into an office.

Where to begin?

But how do you actually start a business and keep the men in suits happy?

One of your first considerations should be whether you wish to form a limited company or operate as a sole trader.

While it is possible to set up a company yourself, you will undoubtedly find it easier to buy an off-the-shelf company or pay a formation agent to ensure you get it right. It can cost as little as �50.

Starting up as a sole trader is much simpler and is perhaps more suitable for lower turnover businesses which will not justify the costs of starting and running a company.

Taking responsibility

However, one of the main advantages of forming a company is that the company will only have a limited liability for any debts incurred by the business.

Although starting a business can be very daunting don't be afraid to ask for help

As a sole trader you are personally responsible for them and can risk losing personal assets - including your home - if you cannot meet your debts.

The reality of the situation is rarely quite so straightforward for small companies as banks and creditors will normally demand some form of personal guarantee.

Trading through a company can carry substantial tax advantages provided you actually have, or intend to run, a genuine business.

If you're not, be warned: the Inland Revenue has recently tightened legislation designed to stop people using a company to effectively disguise their employment and claim the tax breaks aimed at helping small businesses.

Tax breaks

A company will pay tax on its annual profits (potentially making up to �10,000 a year before handing over a single penny to the taxman!), while you will only be taxed when you take the money out of the company as either a salary or dividends.

It may be tax-efficient to pay yourself dividends

Depending on your level of earnings, dividends would usually work out as more tax efficient, as they will not attract National Insurance contributions.

Those with cyclical or erratic revenues might like the idea of being able to use their company as a money box - hanging onto the cash until it is needed to delay their personal tax consequences.

Sole traders, meanwhile, are simply taxed on their annual profits and will need to make bi-annual payments to the Inland Revenue.

Accounting rules

As soon as you start out as a sole trader you must register yourself as self-employed with the Inland Revenue and start paying basic National Insurance Contributions of �2 a week.

SOLE TRADERS Good for low return business Less start-up costs Could lose personal assets if can't meet debts Pay basic NI contributions Simple revenue/expenses accounts suffice

Failure to do so will pick up a �100 fine.

On the downside, companies need to lodge an Annual Return (at a cost of �15) and a set of accounts with Companies House each year.

The taxman will also expect a full set of company accounts rather than the simple statement of revenues and expenses he is happy to accept from your sole trading counterparts.

There are some hefty fines for non-compliance but Companies House, 0870 3333636 or www.companieshouse.gov.uk, is normally happy to provide basic advice on its requirements.

Staffing issues

As soon as you employ even just one person you are required by law to take out Employers Liability Insurance.

LIMITED COMPANY Have limited liability Tax advantages File full annual accounts with Companies House Pay Employers Liability insurance

You must arrange a minimum of �5m worth of cover and display your insurance certificate for your employees to see.

Fines for failing to comply can be as much as �2,500 a day.

Sole traders can claim an exemption from this requirement if they only employ members of their family.

As soon as you decide to employ anyone, whether as a trader or a company, you will need to register for PAYE (Paye As You Earn).

Call the new employer's helpline on 0845 60 70 143 for a starter pack.

You are legally bound to make tax and National Insurance deductions before paying wages and pass the money over to the Inland Revenue, not forgetting of course the extra National Insurance you need to pay as an employer.

Calculating your employees' taxes has become increasingly complicated over the last few years.

Depending on who you employ you may need to make deductions for student loans or make payments in respect of sick or maternity leave.

Try the PAYE helpline on 08457 143143 for free advice or visit www.inlandrevenue.gov.uk for a wealth of information and a special area dedicated to employers.

Tax calculations

As soon as your annual sales look like hitting �56,000 you will need to register for VAT and start charging your customers an extra 17.5%.

You must then pay over any tax due to Customs & Excise on a quarterly basis. The required form, VAT1, is available on www.hmce.gov.uk or by calling 0845 0109000.

Businesses with a turnover of less than �150,000 may benefit from the simplicity of the flat rate scheme which charges a flat rate depending on the type of business you run.

It can save both the time and expense of calculating your tax on the normal input-output basis.

Although starting a business can be very daunting don't be afraid to ask for help.

You could also try Business Link (0845 6009006 or www.businesslink.org) for a wide range of practical advice on setting up and running a business.