One of the crucial decisions when starting a business is how to structure your operations from a legal standpoint. A limited company is a separate legal entity from its owners, which limits your personal liability and ensures your personal assets remain secure if your company runs into financial difficulties.
Having a limited company adds a layer of professionalism, which can help to build brand trust and attract new customers and investors. Once profitable, a limited company also offers greater tax-efficiencies than you might otherwise experience as a sole trader.
Here, we will discuss the pros and cons of having a limited company and why it is essential for entrepreneurs and small business owners to understand them.
What Is A Limited Company?
A limited company is a separate legal entity from its owners or shareholders, giving them certain protections under the law. A limited company has many advantages but also comes with additional responsibilities. One of which is the requirement to submit annual accounts to both HMRC and Companies House to go on public record. Compared to sole traders, limited companies are subject to more stringent accounting, reporting and compliance obligations.
Why Should I Consider Changing My Business To A Limited Company, And Is This Right For Me?
There are several reasons why you might consider changing your business to a limited company. Operating as a limited company offers the following advantages:
- Ensures that the owners’ personal assets are not at risk if the company faces financial difficulties.
- Gives a more professional impression to customers, clients and suppliers. Being a limited company suggests that the business is more substantial and has a more formal structure.
- More funding options may be available than for sole traders or partnerships, such as bank loans, seed investment, equity funding and government grants.
- Flexibility in terms of how you remunerate yourself is one of the big advantages of operating a limited company as opposed to a sole trade, especially if your profits are greater than £50,000 per annum.
- Larger, more profitable businesses will often pay less tax as a limited company than if they were to remain a sole trader business.
- There are more options for the owners of a limited company to extract wealth from the business and to separate personal and corporate wealth more tax effectively than for sole traders, including but not limited to making considerable employer pension contributions.
- Shared ownership also allows shared risk and reward. But you must remember to put a robust shareholders’ agreement in place as early as possible in your limited company’s life.
However, setting up as a limited company may not always be necessarily right for your business. For example, if you have a small business with a relatively low turnover, the additional costs associated with running a limited company may not be justifiable. The additional admin, accounting and public scrutiny may not appeal to everyone.
What Are The Disadvantages Of Becoming A Limited Company?
Depending on your business, there may be some disadvantages to becoming a limited company, including:
- Additional costs: These can include accountancy fees, registration fees and legal fees.
- Administrative burden: A limited company must file annual accounts with Companies House, prepare and submit corporation tax returns, prepare correct paperwork to allow shareholders to extract funds from the company, and hold annual general meetings.
- Less privacy: Unlike for a sole trader or partnership, a limited company’s financial information is publicly available for anyone to see.
How Will My Tax Change If I Convert My Business Into A Limited Company?
Whereas individuals need to pay income tax, limited companies are required to pay Corporation Tax. Corporation Tax is a tax on profits from trading, income from rental properties or any other sources and sale of investments or assets. As of April 2023, the main rate of Corporation Tax for businesses with taxable profits of more than £250,000 increased from 19% to 25%.
However, smaller businesses with taxable profits below £50,000 will continue to be taxed at 19% and those that fall between these thresholds will be subject to marginal relief. Under ‘associated companies’ rules, you can’t simply split your activities across several associated companies. The profit thresholds are shared equally between all the associated companies.
You can find out more about how much tax a limited company pays in this blog.
How Do I Convert My Business Into A Limited Company?
If you decide to convert your business into a limited company, you will need to follow several steps.
Firstly, you will need to choose a name for your company and check that it is available. You will then need to register your company with Companies House, which can be done online. You will also need to appoint directors and shareholders and create a memorandum and articles of association.
Be careful and take advice when deciding on the number of shares to issue, and whether all should rank equally on all counts, or if there is anything else to consider.
Once your company is registered and set up, you will need to inform HM Revenue & Customs (HMRC) that you are now trading as a limited company. You will also need to register for corporation tax and set up a PAYE scheme for any employees. If you are VAT registered, you will need to either transfer your VAT registration to your limited company, or apply for a new VAT registration. Both of which can take some time.
You will need to consider the value of any assets held in your sole trade business as there may be tax consequences when they are transferred to the limited company.
If all that sounds daunting, don’t worry. IN Accountancy specialises in limited company formations. We can set up everything for you and ensure your structure and tax planning strategies are all in place.
Below is a video I created discussing sole trader vs limited company start-up.
How Can An Accountant Help?
Now that you’ve considered the advantages and disadvantages of converting your business to a limited company, what next? Before deciding whether to operate your business as a limited company, it is important to seek advice from a qualified accountant or solicitor who can help guide you through the process.
IN Accountancy is an award-winning Stockport accountant that can support self-employed or small business owners who are interested in making the switch to trading as a limited company. We also offer advice and accountancy services to sole traders and partnerships and for personal tax returns.
Contact us today on 0161 456 9666 or askus@in-accountancy.co.uk to find out how we can support you in setting up your limited company.
