In this tutorial we are going to consider the question of your business' structure/set-up and help you evaluate whether running your business as a Limited Company (Ltd.) could save you money.
What is a Limited Company?
A limited company* has special status in the eyes of the law. It is a business structure that has been incorporated at Companies House as a legal ‘person’.
It is completely separate from its owners, it can enter into contracts in its own name and is responsible for its own actions, finances and liabilities. The ownership of a limited company is divided up into equal parts called shares.
Because limited companies have their own legal identity, their owners are not personally liable for the firm's debts. The shareholders have limited liability, which is the major advantage of this type of business legal structure.
Unlike a sole trader or a partnership, the owners of a limited company are not necessarily involved in running the business, unless they are also a Director.
Advantages of a Limited Company:
Although the sole trader route, which is commonly referred to as being self employed, is the most popular way of running a business in the UK, there are significant advantages of operating as a limited company:
The main advantage of running your business as a limited company is that you are likely to pay less Personal Tax than as a sole trader.
If you are the director and shareholder of a limited company, you will normally choose to take a small salary and draw most of your income in the form of dividends.
By doing this you can minimise the amount of National Insurance Contributions (NICs) you have to pay because dividends are taxed in a different way, and are not subject to NICs
As a sole trader the majority your profit is subject to National Insurance Contributions. Running your business as a limited company could therefore help you to take home more of your earnings.
In addition other Tax Optimisation can be considered by making a spouse (or registered civil partner) a Director and/or Shareholder to utilise both parties' Personal & Dividend Tax Allowances**.
2. Separate Entity
A limited company is a completely separate entity from its owners. Everything from the company bank account, to ownership of assets and involvement in tenders and contracts is purely company business and separate from the interests of the company’s shareholders.
3. Limited Liability
Assuming no fraud has taken place, your ‘limited liability’ means you will not be personally liable for any financial losses made by your business. A limited company can therefore give you added protection should things go wrong***.
Those running a business using a different structure (e.g. as a Sole Trader) do not enjoy such protection from financial claims.
4. Professional Image
In some businesses and industries, having a limited company can provide a more professional image.
If you are doing business with larger companies, you may find that they prefer to deal with limited companies rather than sole traders or partnerships.
5. Protected Business Name
Once you register your company with Companies House, your company name is protected by law. No-one else can use the same name as you, or anything deemed to be too similar.
6. Different Shareholder Classes
A limited company can issue various classes of shares, with differing rights & entitlements attributed to them. This means you can relatively easily sell stakes in the company, or transfer ownership of shares.
7. Ownership and Control
In the case of Private Limited Companies, the Directors are also usually the main shareholders of the Company. Thus both the ownership and control of the business remain in their hands.
8. Pension Contributions by Company to Director's Pension Scheme
A limited company can fund its director's pensions as a legitimate business expense. This can offer a further tax advantage over those who are running their business on a self-employed basis****.
9. Employee Shareholders – In some instances employees can purchase shares (or be granted shares via a company share scheme) and become shareholders of the company. This allows Key Employees to share in the company's success and creates goal alignment between employees & the company. Structured well this method can also be used to retain talented individuals.
10. Sale or Transfer of Business
If a shareholder wishes to retire, sell their shareholding, or dies, it is far easier to transfer ownership of a limited company than a non-registered business structure.
And what about the disadvantages?
1. Increased administrative burden
As a Director you have specific responsibilities , mainly to:
keep company's records (records about company itself as well as financial and accounting records), and to report changes
file Accounts with Companies House & file a Corporation Tax return with HMRC (normally annually)
pay Corporation Tax
follow the Company's rules, shown in its Articles of Association
Tell other shareholders if you might personally benefit from a transaction the company makes
Complete an Annual Confirmation Statement
You will need to keep details of any shareholder votes and resolutions, including any Dividends declared (which also need to have the correct documentation in place).
With the right professional accounting advice, these requirements do not have to be an intimidating prospect and can easily be managed.
Whilst the initial cost of setting-up a Limited company is relatively modest, most business owners will need some professional advice from an accountant to help them operate the company & ensure tax position optimisation. Accountancy fees for Private Limited Companies are higher than for other legal structures, mainly due to more stringent Accounting Reporting requirements as well as the need for a Company Corporation Tax return, in addition to Self-Assessment Returns for Directors. A Company Payroll Scheme will also need to be run, depending on profit extraction model chosen.
However for companies with profits in excess of c.£25,000***** per year, the higher running costs are offset by savings made in Personal Tax position. In addition the other advantages of Private Limited Companies become available too.
3. Private Use of Company's assets
Potential Benefit-in-Kind rules kick in where there is any personal use of Company assets by Directors, which was not reimbursed at market rates. Company cars are not recommended due to high rates of taxation through the Benefit-in-Kind regime (with tax implications for Directors as well as the Company). However instead you can use your private vehicle and charge mileage accrued on business to the company (at standard HMRC rates). These are tax deductible for company and non taxable on individual. In addition there is a possibility to run a pick-up style vehicle as a "company van", which can work out to be cost efficient too due to lower Benefit-in-kind rates applicable.
For many business it will make sense to investigate how they could benefit from changing their business structure to a Private Limited Company set-up, unlocking the advantages of this legal form. With good professional advice from a knowledgeable Accountant the additional administrative burden can be minimised and managed, to help you maximise the (financial) rewards of your entrepreneurship!
If you would like to discuss any of the above in relation to your own circumstances, or require professional accounting advice on whether your business could benefit from being run as a Limited Company structure (Ltd.), please get in touch with us at Tulip Thistle Accountancy.
* we will limit our topic today to Private Limited Companies in the UK (Ltd.), whose shares do not trade on a stock exchange
** Tax rules are subject to change and therefore you should be careful to incorporate solely to optimise your tax position
*** sometime banks, before lending money to a Ltd. company will insist upon a personal guarantee by Directors
**** Subject to normal Annual & Lifetime allowances limits. See my earlier blog on Pensions for more information
***** It can be much lower and completely depends on indvidual tax payer's personal circumstances
The information contained in this tutorial is for general information purposes only. The information is provided by Tulip Thistle Accountancy and while we endeavour to keep the information up to date and correct, we make no representations or warranties of any kind, express or implied, about the completeness, accuracy, reliability, suitability or availability with respect to the tutorial or the information, products, services, or related graphics contained on the tutorial for any purpose. Any reliance you place on such information is therefore strictly at your own risk.
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