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Limited Company – Advantages and disadvantages

  • June 2021
  • 7 minutes

In the United Kingdom, a limited company is one of the most common legal structures for all types and sizes of businesses. This is due to the numerous professional and financial advantages it provides, which far outnumber those offered by sole traders or contractors working through an umbrella company.

Top 10 limited company advantages

taxqube Minimising personal liability

The most significant advantage of forming your own company is the limited liability protection it provides. Simply put, your personal assets will be safe if your company gets into trouble. Because a limited company is treated as a separate legal entity, it is treated as if it were a legal ‘person’ in its own right. As a result, the company is distinct from the people who own and manage it. This separation is known as the ‘corporate veil’. Any debt, losses, or legal claims associated with the company are the responsibility of the company itself – not its owners (shareholders/guarantors) or directors.

You will not be legally obligated to pay more than the nominal value of the shares you own as a shareholder. You will only be required to contribute the nominal value of your unpaid shares if your company becomes insolvent and unable to pay its creditors. Aside from that, your personal assets will be safeguarded.

It is common practice to set the nominal value of most shares at £1. This means that your liability could be as little as £1, depending on the number of shares you issue and purchase. However, there are rare instances (such as fraud or wrongful trading) whereby the corporate veil might be ‘lifted’ or ‘pierced’, which may result in shareholders (and directors) being personally liable for company debts.

Sole traders, on the other hand, take on significantly more risk. Any and all business debts, losses, and liabilities are their personal responsibility. There is no distinction between you and your business as a sole trader. You owe money to the company if it owes you money. As a result, your personal assets, such as your home and savings, may be seized to satisfy your debts.

If you plan to provide high-value supplies or services that could result in liability claims, you’ll need to limit your liability. You would not be forced to use your personal assets to cover these liabilities unless you gave a personal guarantee to the company or were found guilty of wrongful trading or other criminal acts if such a situation arose while running your business as a limited company.

taxqube Professional Status

Your professional status and image will improve considerably when you start trading as a limited company. Whilst the activities, ownership structure, and internal management of your business may be the same as when you were operating as a sole trader, companies are held in much higher regard and create a better impression.

The difference in perception stems largely from the fact that incorporated businesses are more rigorously monitored. Limited companies have more complex accounting and reporting requirements, their statutory compliance obligations are much greater, and their corporate details and accounts are published on public record where they can be inspected by other businesses and members of the general public.

A more professional  image, coupled with benefits of corporate transparency, could also benefit your business in many other ways such as:

  • Attracting new clients and investors
  • Accessing a wider range of lending opportunities
  • Expanding into different locations or markets
  • Creating a valuable and trusted brand identity
  • Competing on an even playing field with other businesses in your industry sector

taxqube Tax efficiency and planning

Limited companies in the UK currently pay only 19% Corporation Tax on profits, whereas sole traders pay 20-45% Income Tax on their profits. This offers greater flexibility for tax planning.

  • Reinvesting surplus cash

You can keep surplus income in the business to pay for future operational costs and growth rather than withdrawing all available profits each year and paying more personal tax on top of your Corporation Tax liability. This is preferable to withdrawing all profits, paying higher income tax rates, and reinvesting your own funds when the company requires additional funds.

  • Deferring personal income

You can defer the withdrawal of profits to a later tax year when a lower rate of business or personal tax would be due. This is an efficient strategy if the withdrawal of all available profits would take you into a higher Income Tax band or Dividend Tax bracket.

taxqube Higher personal remuneration

By combining a salary and dividends, you can reduce your Income Tax and National Insurance Contributions (NICs) by forming a company. If you keep your director’s salary below the NIC Primary Threshold (PT), you will not have to pay any Income Tax or Class 1 National Insurance on those earnings. Furthermore, the company will not pay Corporation Tax on the salary, because wages are a deductible business expense.

The rest of your income can be taken as dividends, which are paid from post-Corporation Tax profits. You will benefit from the annual £2,000 Dividend Allowance (2021/22 tax year), so you will not pay any personal tax on the first £2,000 of dividend income. Above this sum, you will be required to pay Dividend Tax. However, Dividend Tax rates are much lower than Income Tax rates.

Depending on your annual profits, you could save hundreds to thousands of pounds in tax every year by operating as a limited company rather than a sole trader.

taxqube Separate legal identity

A limited company, unlike a sole trader, is a legal ‘person’ in its own right, with a distinct identity from its owners and directors. As a result, businesses can contract in their own names and are responsible for their own debts and liabilities.

The owners are only liable for the value of their unpaid shares or personal guarantees, rather than the full extent of the company’s liabilities. If a company becomes insolvent, it is the business itself that is declared bankrupt, not the shareholders or directors.

Furthermore, this means that businesses have an indefinite succession and can survive the death or ownership of their founders. The company can be sold or transferred to new owners at any time, allowing it to continue operating with minimal disruption to customers and employees.

taxqube Credibility and trust

The professional status of a limited company structure will add valuable prestige and credibility to your business. In fact, certain businesses and agencies (particularly in the IT, finance, and construction industries) are only prepared to engage with other incorporated businesses. This is usually due to the level of risk involved in the contracts they award.

If you’re likely to be dealing with sensitive information, complex IT projects, or large-scale construction contracts, for example, your clients will demand limited liability protection from all contractors because the associated risk of such work is particularly high.

In most cases, sole traders are simply not considered for these types of contracts, so a company really can improve your competitive advantage.

taxqube Investment and lending opportunities

Because businesses can have multiple owners, it is possible to raise additional funds by selling portions of the company (‘shares’) to new investors. Companies, on average, have more lending options than sole traders, and some banks will only lend to incorporated businesses.

Furthermore, it is often possible to secure a loan for a company without the need for shareholders or directors to provide security against their own property.

taxqube Protecting a company name

All company names must be entirely unique, so no two companies can be set up with the same name, or even names that are very similar to one another. The official name of your company cannot be registered and used by any other business. A sole trader’s business name does not enjoy this protection.

taxqube Pensions

Companies provide the opportunity to invest pre-tax trading income in a company pension scheme, as opposed to investing withdrawn income in a personal pension after the deduction of business tax and personal tax.

taxqube Splitting income

If you own a limited by shares company, you can issue shares to your spouse or family members. This will allow you to split your business profits and minimise personal tax liabilities. You can take advantage of your spouse’s or children’s tax-free Personal Allowance, Basic tax rate, and £2,000 tax-free Dividend Allowance by paying dividends to them. If you are the sole or primary wage earner and/or provide financial support to your children on a regular basis, this is extremely beneficial.

taxqube Disadvantages of a limited company

As one might imagine from anything that offers so many advantages, there are also drawbacks to limited company formation. Most of these apparent downsides, however, fade in comparison to the tax benefits, improved professional image, and limited liability protection you’ll receive.

The most notable disadvantages are as follows:

  • Limited companies must be incorporated at Companies House
  • You will be required to pay an incorporation fee to Companies House
  • company names are subject to certain restrictions
  • you cannot set up a limited company if you are an undischarged bankrupt or a disqualified director
  • personal and corporate information will be disclosed on public record
  • accounting requirements are more complex and time consuming
  • you may need to appoint an accountant to help you with your tax affairs
  • strict procedures must be followed when withdrawing money from the business
  • a Confirmation Statement and annual accounts must be filed at Companies House each year
  • a Company Tax Return and annual accounts must be delivered to HMRC every year.
  • companies are required to adhere to strict record-keeping requirements, including taking minutes of meetings and recording all decisions taken by directors and shareholders
  • company registers and records must be maintained and made available for public inspection at your registered office
  • if you make any changes to your company details, you must notify Companies House immediately

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