The term “separate legal entity” is a fundamental concept in law that underlies business law and legal liability.
Not getting it right means that you could:
- trade in a way which makes you personally liable for the activities of a company, rather than the company itself
- sign contracts which make you personally liable on the contract, when you don’t intend to
- sign a contract with a non-existent legal entity, and make the contract unenforceable
- sign a contract with the wrong company within a group of companies
- lead to unwanted legal proceedings.
And it’s all avoidable.
What does "separate legal entity" mean?
A separate legal entity is a person recognised by law - a "legal person". It its own legal rights and obligations, separate to those running and/or owning the entity.
That person could be a company, limited liability partnership, or any other entity recognised by law as having its own separate legal existence.
An “incorporated” entity - such as a company - is a separate legal entity. That’s a separate legal existence to its:
- founders: the natural persons that caused it to be formed
- directors: those that control the company
- shareholders: those that own the company.
In HL Bolton Engineering Co Ltd v TJ Graham Sons Ltd 1957 1 QB 159, Denning LJ described companies like this:
A company may in many ways be likened to a human body. It has a brain and nerve centre which controls what it does.
It also has hands which hold the tools and act in accordance with directions from the centre.
Some of the people in the company are mere [employees] and agents who are nothing more than hands to do the work and cannot be said to represent the mind or will.
Others are directors and managers who represent the directing mind and will of the company, and control what it does. The state of mind of these managers is the state of mind of the company and is treated by the law as such.
The law takes a flexible approach to recognising separate legal entities.
What is a Legal Entity?
The hallmarks of a separate legal entity are that it can:
- buy, sell and own property of any kind in its own name
- agree to legally binding contracts, and
- sue and be sued in its own name.
As a consequence of these features, separate legal entities can:
- incur debt
- become creditors
- own assets – intangible and intangible
- own real property, and
- be liable to pay taxes.
All the things that human beings can do (and are legal entities), from a legal perspective.
This terms “separate legal entity” means the same thing as “separate legal personality”, “separate legal existence”, and “separate legal person”. It’s an entity with the features described in bold above and recognised by law as having those features.
It’s this separate legal personality that makes companies attractive vehicles for business ventures.
Why is this legal concept important?
Two main reasons. There are many others.
Liability rests with the company, rather than the shareholders, directors or company officers.
Also, other legal concepts in law are based on this separate entity concept.
That includes these legal concepts:
- limited liability
- piercing the corporate veil
- forming legal binding contracts (to determine to who legal obligations are owed)
- the different roles, powers of directors and fiduciary duties for directors
- common designs, which give rise to joint and several liability
- shareholders, and how their roles and responsibilities are divorced and completely separate to the roles and duties of directors – even if they are the same individual.
They all pretty much starts with the concept of separate legal entities.
Top of the list for most businesses is to take advantage of the principles of “limited liability”. Business activities are structured using different legal entities, as subsidiaries or connected companies.
The basic concept is straightforward.
But in motion, things can get confusing if you don't know what you should be looking for.
Why have a separate legal entity?
Primarily, businesses trade as companies.
The company - which is a separate legal entity - insulates the individuals participating in the business from personal liability which may arise as a result of doing business.
In this way, the company:
- generates revenue, which is owned by the company
- incurs expenses, which are payable by the company
- attracts legal liability to pay taxes to taxation authorities, and
- typically pays tax at lower rates than individuals.
The business owners and directors are protected from liability other than in limited circumstances (which essentially involve some sort of fraudulent conduct).
Joint venture companies are a common tool to enable distinct projects, separately from existing companies.
Two or more independent businesses (ie: separate legal persons) may wish to cooperate to start a special project.
Joint venture companies are often referred to as "special purpose vehicles", as they have a specific purpose for formation they:
- are jointly owned by the founding companies
- may make profits which are owned by the joint venture company
- buy and own assets
- buy and lease property
- licence intellectual property rights, such as software
- have their own customers and suppliers
- pay expenses, taxes, employees and consultants
- return profits to the founding companies in agreed percentages
- are sold off when successful
- isolate the liabilities to the joint venture
- can be made to fail gracefully, and be dissolved without affecting the founding companies
Some businesses operate as groups of companies - one parent company, with many subsidiaries which in turn have their own subsidiaries.
Subsidiary companies might be setup below a parent company for a variety of reasons:
- As a means to organise the operations of a business
- To siphon off risk to legal entities other than the parent company
- Manage operations
- Isolate specific assets and liabilities
- Run a separate businesses within a larger company group. Each company might have a different function or specific role within a group of companies
- Offset profits and losses between different companies within the group
- To trade in a foreign jurisdiction to obtain benefits of a company within that country, such as:
- the ability to trade without tariffs, such as in the European Union
- obtain the benefit of lower tax rates.
- Attract outside investment without giving proprietary rights in the entire group of companies or in a parent company
Whatever the reasons may be, subsidiaries also attract all the benefits of other separate legal entities – insulation of personal liability of the people that run them, work for them, and own them.
So this separate legal entity concept can be applied to obtain advantages in a number of different ways:
- to insulate the directors and owners of a single company from liability
- in larger businesses, to separate out new projects and joint ventures in special purpose vehicles
- trade in different countries with subsidiaries formed under local law
And there are others.
Also, parent companies are not liable for the debts of subsidiaries companies. The subsidiary is liable for its own debts.
That's usually the case.
But if there has been series mismanagement of the subsidiary - the sort that attracts legal liability, such as sham companies - the parent company can be made liable for the debts of its subsidiary.
Different Types of Companies
In the UK, you have:
- private limited companies, whether limited by shares or by guarantee, that use the suffix “Limited” or “Ltd”
- private unlimited companies, which use the suffix “Unlimited”
- limited liability partnerships, which use the suffix “LLP”
- public companies, which use the suffix “PLC”
- limited partnerships, and
- community interest companies. These use the suffix “CIC”.
By the way, under English law: a partnership does not have a legal personality separate from its partners.
Foreign Separate Legal Entities
English law also recognises legal entities which are accepted as legal entities in their country of formation.
In Bumper Development Corp Ltd v Commissioner of Police of the Metropolis  4 All ER 638, the UK Court of Appeal held that a Hindu temple was a separate legal entity. It had legal personality under the law of the state where it was created, India.
In the US, an LLC is an entity (a limited liability company) in the same way as an English PLC, limited company or limited liability partnership.
Is a trust a legal entity?
Well, yes and no. We think it depends on how it is set up:
- The trustees of a trust hold assets on trust for the beneficiaries of the trust
- The trustees are entitled to use the assets of a the trust to satisfy debts of the trust
- A trust will be liable to pay tax and when the HMRC is notified of it, it will have a tax reference
- It's yes when the trustee is set up as a company
- It's no, when the trustee(s) are individuals.
Example: Separate Legal Entity
When a company is formed it becomes a legal entity in its own right. That formation is known as “incorporation”.
The company has its own “legal personality”:
- it is a legal person;
- with its own legal identity;
- separate to the individuals involved with the company.
This legal separation means that the legal liability of the company is not the liability of:
- the shareholders
- the directors
- its employees, or
- its consultants or contractors.
Companies have perpetual existence, subject to ongoing filing formalities to keep the company on the register of companies in the place it was formed.
Its legal existence survives the existence or participation of any directors and shareholders. That perpetuity of existence is a trait of the entity itself. The company’s existence ends when it is wound up and dissolved.
The documents which establish the company setup the legal relationship between the shareholders and the directors is known as its “internal constitution”. It governs the legal relationship between the company, its directors and the shareholders. The internal constitution won’t affect the continued legal existence of the company as a separate legal entity.
Origin of Separate Legal Entities
This separate legal personality concept was first recognised by courts in case law in the famous case named Salomon v A Salomon & Co Ltd, decided in 1897.
In that case the House of Lords decided:
Once a company is incorporated, it has a separate legal existence to the shareholders of the company…[the company] must be treated like any other independent person with its rights and liabilities appropriate to itself …, whatever may have been the ideas or schemes of those who brought it into existence.
The Supreme Court affirmed the fundamental importance and authority of the principles in Salomon v Salomon in Prest v Petrodel Resources Ltd (2013).
What happened in Salomon v A Salomon and Co Ltd?
The facts of the case are more complicated than we’d like for example purposes.
Stripping back a lot of the detail (and glossing over a lot of it), this is what happened in Salomon v A Salomon:
Aron Salomon ran a leather and boot-making business in his own name.
He incorporated a business for his leather and boot-making business. He named it “A. Salomon and Co Ltd”.
So, he incorporated a previous business and contracted through the defendant company rather than in his own name.
When he incorporated the company, Mr Salomon took a series of security interests (essentially mortgages) over the assets of the company.
Business in the boot trade declined, and the company went into liquidation.
Salomon and Co Ltd defaulted on payment of the securities. Mr Salomon was sued by the liquidator (in the name of the company), claiming that Mr Salomon was liable for the debt.
The company was a separate person from Mr Salomon. Mr Salomon could not be made personally liable for the debts of the company.
As a result, the company was liable on the contract sued on, and not the shareholders or directors.
That’s the essence of a company’s own separate legal existence.
The directors aren’t the company. Nor are the shareholders. Nor are the employees.
Difference between Sole Proprietors and Companies
In this example, we use a company as a separate legal entity. It could be any other form of entity with a separate legal existence.
Trading as a sole proprietor
When someone trades as an individual, they’re a “sole proprietor” or a "sole trader”.
Here are some assumed facts in a simple example:
- Bob Roberts is a sole trader.
- He provides IT services in his own name as a sole proprietor.
- He trades as “Bob’s IT Services”
- Bob is the legal entity which owns the business
- Bob runs the business.
Bob signs all of the contracts, insurance contracts, contracts with customers and suppliers in his own name. Bob “is” the business.
- Tax returns are filed in Bob's name
- If a fine is imposed on the business, it is Bob that has to pay it
- If an employee of Bob makes a mistake that gives rise to legal liability, it is Bob that’s liable for the employee’s mistakes.
That’s because employers are vicariously liable for acts of employees
- If something goes wrong – say there is a breach of contract – Bob is personally liable to pay damages.
Bob’s liability in all of these situations is unlimited: all of his personal assets are at stake to pay taxes, the fine, damages for breach of contract, and the employee’s mistake.
It’s different if Bob forms a company and trades as a company, as was the case with Mr Salomon, above.
Trading as a Company:
The company will have its own separate legal identity to Bob.
- Bob Roberts forms a company. He names it “Bob Roberts Limited”.
- Bob Roberts Limited is a company limited by shares (just like in Salomon v A Salomon & Co Ltd)
- Bob Roberts is a director and shareholder of Bob Roberts Limited
- Bob Roberts Limited is the legal entity.
What are the consequences of setting up the business for Bob?
It’s the company Bob Roberts Limited that is liable:
- to pay taxes
- to pay the fine
- make good the wrongdoing caused y the employee
- pay the damages arising from the employee’s mistake,
and not Bob.
Trading Names & Business Names
A trading name or business name is a name used by a business which is not its real name. It’s an alias for the legal entity. It’s analogous to a nickname for a natural person.
A few examples:
- Coca-Cola trades as “Coca-Cola”, not “The Coca-Cola Company Inc”.
“Coca-Cola” is a trading name.
“The Coca-Cola Company Inc” is the company name.
- Microsoft Corporation is known as “Microsoft”. "Microsoft" is the business name.
- Facebook Inc trades as “Facebook”. Again, "Facebook, Inc" is the company name, and "Facebook" is the trading name
These companies became known and famous by their trading names, rather than by their formal company name. Who wants to use the full company name anyway?
Answer: When it gives rise to legal consequences if you don't.
Why use a Trading Name?
Different companies adopt trading names for different reasons, the usual ones are:
- that’s how people are going to commonly refer to the company
- trade names will be protected by registered and unregistered trade marks, not the full company name.
Rare is the occasion when companies apply for registered trade mark protection for the full company name.
However, it’s the company itself that owns the goodwill in the trading name or the registered trade mark. The trading name can’t own property because it’s not a legal entity.
But when it comes to legal relationships – such as signing contracts or filing documents with regulatory authorities, these companies have to use their proper legal name – with the “Limited”, “Inc” or whatever the appropriate suffix for the company is.
We run through an example on how to sign contract below and show the difference.
Implications in Law
There are a series of recurring problems which are easily avoided.
A few careful steps here and there and you should remain in the clear, and avoid personal liability and other problems.
Properly identifying the legal entity
There is no substitute for doing a company search to locate the legal entity on the relevant register of companies.
Companies, LLPs and other incorporated legal entities are formed when the UK Registrar of Companies (trading as "Companies House") says so here.
Doing a company search quickly and easily removes any doubt about:
- the continued existence of the company
- its registered address
- its registered company number
- who controls it
- whether it has filed what it is meant to have filed with the Companies Registrar.
It also show the status of the company.
If the company is not listed on the Register, it doesn't exist. That means the company can't enter into any contract - again, because it doesn't exist as a separate legal entity.
Well yes, but...
Contracts signed before a Company is formed
Sometimes business people sign contracts before companies are formed in anticipation of the company being formed.
Contracts signed in the name of the company can't be enforceable against the company, because it didn't exist at the time.
Just because the company comes into existence at a later date, after the contract was signed doesn't validate the contract.
Also, if the company has ceased to exist - ie dissolved - or is in liquidation, the Companies Register will show that.
If a company is dissolved, it has ceased to exist.
Again, it can’t enter into contracts with others after it has ceased to exist.
The contract might be enforceable however against the individual signing it.
Contracting parties: Who am I contracting with?
Back when companies were first made available over 100 years ago, incorporated companies were required to use the suffix “Limited” or the alternative “Ltd”.
This was so that customers and suppliers knew that they were dealing with a company that had limited liability.
That requirement still applies today, undiminished.
The name of a company must end with the suffix "Limited", "Ltd.", "P.l.c.", as the case may be. "LLP" applies to limited liability partnerships.
You might think that that's just for the purposes of registering the company.
But it goes further. When it is a company trading, company suffix “Limited” or its permitted abbreviation, “Ltd” must be used.
Using our example above, “Bob Roberts” and “Bob Roberts Limited” are completely different legal entities.
So when a natural person signs a contract in their own name – and not that of the company – they become personally liable on the contract.
Suppose then that you run a business online. You have a website. But you do not:
- identify the company name in your terms of business
- or anywhere else on the site.
The question is, what is the legal entity that hosts or owns the website? Who "is" the business? Without reference to the full name of the company, it can't be a company.
When do you use the full company name?
If you’re trading as a company, you can’t leave out the reference to the “Limited” or “Ltd”. The company is legally required to identify itself properly.
Also, leaving out the full name of the company can lead to personal liability on the contract.
Also, the UK Companies Act requires companies to use its proper company name, registered company number, and registered address on all paperwork of the company.
This includes on:
- its paperwork, such as:
- invoices and business cards
- email correspondence, usually in footers
- purchase orders
- statutory filings
- its website(s), in fact any communication
- applications for registration of intellectual property rights, whether its trade marks, designs or patents
- registering domain names
- contracts to:
- preserve confidentiality
- licence know-how
- enter a lease for property
- buy or sell property
- contracts of employment
Not doing so means the directors and employees expose themselves to the risk that they will be found to be trading as individuals, particularly when email is used to enter into contracts with customers and suppliers.
Don't take my word for it. A specific piece of legislation says so.
Once you start using a company, it’s important to use the company name, in the form appears on the Register of Companies, and observe the requirements for execution of contracts and other documents to create legally binding contracts.
What if you don't use the company name when you should?
There's a (very) good argument that it's not the company trading. It is someone other than the company that is trading.
If that's a director of the company, it's an express route past limited liability otherwise available to directors and shareholders of companies.
That's because it's not the company in the legal relationship. It's probably the individuals organising the business activity.
Company vs Shareholder
You may need to sign a contract as a shareholder of a company. In those cases , you'd sign as in your own personal name. It's important to get the signing provisions correct.
FAQs: Separate Legal Entities
1. What are “divisions” of a legal entity?
Sometimes you might see wording such as “[Division Name], a division of [Legal Entity Name]”.
What does this mean?
Sometimes it means that “[Division name]” is a reference to a business unit within “[Legal Entity Name]”.
So the division equates to a business name for the [Legal Entity Name].
Other times “division” can mean a reference to one or more legal entities.
It’s really anyone’s guess – you need to make enquiries to find out for sure.
You’d do that in part by doing company searches to find out information on the true name of the business that is trading and holdings itself out as a “Division”.
2. What are "branches" of a separate legal entity?
Many businesses have many branches or multiple offices, at separate physical addresses.
There's usually nothing in principle preventing a business from incorporating a subsidiary of the parent company for each branch, and each branch being owned by a single subsidiary.
Take the banking industry. It’s highly regulated.
UK banks are required to be owned by the legal entity which is regulated by the Financial Services Authority. A single bank might have dozens or 100s of branches.
As a result of the regulations governing the banking industry, banks are not able to form companies for each branch it may have – disregarding the administrative inefficiency of doing so.
Each branch is usually a property owned by the regulated bank. They’re owned by the same legal entity, such as HSBC Bank UK PLC, Lloyds Bank plc, Barclays Bank UK plc.
3. Does changing the name of a company create a new separate legal entity?
When a UK company is formed, it's assigned a company number. It's a registration number which uniquely identifies the company .
That registration number never changes. It's a permanent unique identifier for that company.
The company name however, can change. All it takes is a resolution of the board of the company.
That does not change the legal identity of the company. It doesn't create a new separate legal entity.
It's the similar situation when an individual changes their name by deed poll. They are the same person. it does not change any legal relationships the person has with others.
See for example this company. It has changed its name, but the company number did not change.
It's the same legal entity.
4. Are there differences between accounting entities and legal entities?
An "entity" for accounting purposes can mean different things.
There’s room for confusion between an accounting entity and a legal entity.
A legal entity or number of companies within a larger group can be grouped for accounting purposes in whatever way suits the companies, provided it complies with applicable regulatory requirements.
Likewise, a single company can be broken up into any number of accounting entities to track the profitability of different business units within it.
All of this may seem a bit basic. It is.
But when it's in motion, it can be difficult to spot.
We've seen judges enter judgment against individuals for signing contracts in their own name, rather than in the name of a separate legal entity. Without much discussion. Because the law is so crystal clear.
It's so easy to make a mistake a cause serious down the road. And even trainee solicitors have been known to not have a clear understanding of legal entities and how they're properly identified.
Don't make the same mistakes as others before you.
Adopting a process to identify separate legal entities and the capacity in which you may need to sign a contract is a formula for success.
If you don't have a clear understanding of "the why" you are about to sign a contract in a particular way, you shouldn't.
You may not need to speak to a lawyer, but you need to speak to someone to talk it through to get that clear understanding.
Don't make the mistake of signing a business contract:
- in your own name, when you intend to sign for the company
- in the name of the company, when you intend to sign on your own behalf, such as in your capacity as a shareholder
- sign on behalf of one company when you intend to sign on behalf of another company.
And use the "Limited", "Ltd" or "Plc" to identify the company as a company.
Our Business Solicitors
We're long serving solicitors that have advised companies and individuals avoid problems such as those referred to above, often at the last minute. We've also helped companies pull themselves out of a bad spot after it would seem to be too late.
We advise all sorts of businesses, large and small on:
- business contracts to fix them, such as terms and conditions of business
- joint ventures
- regulatory compliance issues, such as disclosures required under the Ecommerce Regulations, Consumer Rights Act, GDPR, other legislation
- minimising - and avoiding - liability wherever possible, and
- business disputes.