If you’re an aspiring business owner in the United Kingdom, there are two main business structures available to you for setting up your business: either operating as a sole trader, or forming your own limited company.
In comparison to sole traderships, limited companies provide a variety of professional and financial advantages, which is why the structure is increasingly preferred even by those operating in trade industries like plumbing, or carpentry which traditionally would have been sole traders.
But if you’re torn between the two, or you’re a freelancer debating whether or not to incorporate as a limited company: here are the main limited company benefits you need to know.
Personal liability indemnity
The one major benefit entrepreneurs prefer about the structure of a Limited Company is the security it offers. A limited company means just that: its liability is limited.
This means that in the event of the business running into financial troubles, company owners personal assets are secured and remain separate from any business debts accrued. This is because in the eyes of the law, a limited company has its own separate legal identity.
“The Corporate Veil” is another term for this separation and refers to any debts, legal claims or losses associated with the limited company becoming the sole responsibility of the company itself, and excluding its owners, shareholders or directors (unless a personal guarantee had been given to a company creditor).
Limited liability is particularly essential if your limited company will be supplying or delivering high-value services. In the event of liability claims, it’s critical to have this protection.
Professional identity
Even if your limited company’s operations, management, and ownership structure are the same as when you were a sole trader, in general a limited company business structure makes a better first impression. Subsequently, limited companies are highly regarded, quickly earning recognition and may find it easier to bring investors on board to raise capital.
The majority of this is based on the connotation of the term. In general, when people think about a company, they immediately think of a rigorously reviewed organisation that can be held accountable for both accounting and legal matters. Hence, a limited company is frequently regarded as more professional because of these responsibilities.
Additionally, companies in general have to be more transparent with their inner workings. Corporate details, statutory compliance and corporate accounts being published on public records in full view offers security for investors, funders, or customers wanting to do business.
Efficient Tax and National Insurance Contributions
In the United Kingdom, limited companies enjoy significant tax benefits. Limited companies pay just 19% Corporation Tax on any of their profits, as opposed to sole traders who may owe anywhere from 20 to 45 percent in taxes. This big difference allows for more control over tax planning.
If you are a limited company director and/or a shareholder of a limited company, Corporation Tax allows you to take a small salary while still receiving the majority of your income from the business in the form of dividends.
One thing to be especially aware of as a limited company director is The Dividend Allowance. This allowance gives directors an annual allowance of £2,000 and means that they will not have to pay any personal tax on their first £2,000 of dividend income. Once that figure is exceeded, directors are then liable to pay Dividend Tax rates, but they are significantly lower than Income Tax rates and this can save a small business owner thousands of pounds worth of tax every year.
Paying out limited company dividends in the same way you would earn sole trade profits may save your business money. Because limited company dividends are not subject to National Insurance Contributions, you can minimise the amount of NICs you have to pay. As a sole trader, your entire income is governed by National Insurance rules. As a limited company, you have greater flexibility and may be able to make greater earnings.
In addition, by reinvesting any surplus income the business makes, you can also use this money to finance future growth or operational services. As this excess cash is reinvested instead you won’t pay additional personal tax on top of your Corporation Tax liability.
Likewise, you can defer your personal income by deferring the withdrawal of profits to a later tax year which may offer a lower personal tax rate. This becomes especially effective if in the current year, the withdrawal of profits would result in a higher income tax or dividend bracket.
Working with an online accountant can help make sense of tax contributions.
Find out the cost of one today.
Credibility
If your business is likely to be handling sensitive information or working on large construction or IT projects, clients will usually prefer to work with contractors offering limited liability protection because of the risks that come with undertaking such work.
Sole traders are therefore often overlooked for these types of projects because they lack the professional and credible status that a company presents. Depending on the types of work your business will be completing, adding prestige and credibility to your status may be a necessity.
Separate Legal Entity
As mentioned above, a limited company is classed as a separate legal entity from its founders, shareholders and directors.
The result of this is that companies can enter into agreements under their own name and they handle the sole responsibility of any liabilities or debt if they were to be incurred.
Due to this the owners, founders or directors therefore are only liable for their unpaid shares – which often begin at a £1 – or personal guarantees.
This separation offers a range of protective benefits in the event of the company becoming insolvent, as the business will be declared bankrupt – not the owners or associates, or if the business needed to be sold or transferred due to the death or changing ownership of original founding members.
Sole trader status, on the other hand, offers no protection against financial claims if a firm fails because it is regarded as a single entity for tax and administrative reasons. They have potentially unlimited personal liability for their business debts and, in certain situations, could risk losing everything.
By being seen as a separate legal entity and being handled independently, it ensures the business can maintain succession and in the event of being transferred, continue to provide services with very little disruption to employees or clients.
Investment/Share Opportunities
A limited company allows for multiple owners, each that have access to shares. This can be a useful way of raising extra capital if the business was to become prestigious enough, as shares could be sold to potential investors at good prices.
Limited companies are also granted easier access to lending opportunities, and some banks will only lend to businesses that are incorporated. In the event of securing a loan, directors and shareholders will not need to provide security against their own assets due to the protection of separate legal entities.
When you issue shares between family, your profits and personal tax liabilities are split. You may take advantage of your family or spouse’s Personal Allowance, leading to lower-rate taxation, and £2,000 Dividend Allowance if you distribute dividends to them.
Secure Trading Name
Whilst it may sound a whimsical thing when considering legal and financial decisions surrounding your business, having a secure trading name is another large benefit of setting up as a limited company.
Once your business name is registered with Companies House, the company name is protected by law which means that your business can be the only one to exist in the United Kingdom with that name.
This is another protective aspect as if a business or sole tradership was to set up under the same name, they could hurt your business dealings if their work was of lesser quality, or if they had amassed a bad reputation.
Company pension scheme
Another one of the big advantages of a limited company is a company pension scheme. A pension can provide significant tax benefits if you operate a limited company. Personal contributions to a pension can be deducted from your business’s corporation tax payment, allowing them to be treated as a legitimate business expenditure.
You may make personal or corporate contributions to a pension if you run your own firm and it is incorporated as a limited company.
To get the best out of your company pension scheme, it’s best to work alongside an accountant. Find out when to hire one for your limited company.
Easier Setup and Transfer of Ownership
Finally, a limited company is both easy to set up, and transfer ownership if circumstances were to require it.
To set up as a limited company, you need to supply certain personal details to Companies House such as the type of work your business will be undertaking, the address your business will be registered to, and the ownership structure your company will have. Once this is all received, Companies House will usually activate your business in a few hours.
At the other end of the scale, in the event of retirement or compounding circumstances, ownership is just as easy to transfer. Shares, clients, and equipment can all be either transferred or sold on to investors, or new shareholders or directors.
At Raw Accounting, we have years of experience helping entrepreneurs turn their dreams into reality by assisting them with all financial decisions involved in pursuing the setting up of a limited company or sole tradership.
Our advice for limited companies is invaluable, and we love to help where we can, so contact us now for your free financial consultation.
