By Henry Catchpole, Inform Direct
Business owners are often unsure about whether to operate as a sole trader, a partnership or as a limited company.
Here, we explore the advantages of incorporation.
1. It’s quick and easy to get started
It’s now very easy to start a limited company and it can all be done online. Long gone are the days of waiting weeks for Companies House to process the paperwork: now you can start a limited company in just a few hours. What’s more, the cost is an allowable expense against corporation tax.
2. The company has a separate legal identity
This means third parties contract with the ‘company’ and not the individual directors and shareholders. This means companies survive the death of the owners and it’s possible for the directors and shareholders involved with the company to change over time. A company’s existence will only cease if it is formally wound up, liquidated or by other order of the courts or Registrar of Companies.
3. The owners' liability is limited
The shareholders of a company have a limited or capped liability for the debts of the business. The extent of their liability is the amount paid for their shares plus, if they have any, the unpaid amount on any nil or partly paid shares. In practice it is usually just the amount paid for the shares plus any unsecured loans made to the company.
4. Credibility and prestige
The formation of a private limited company can suggest that the business has permanence and is committed to effective and responsible management. It gives both suppliers and customers a sense of confidence and many companies, particularly larger businesses, will not deal with an entity that’s not a limited company. Incorporating a business can therefore open up new business opportunities that wouldn’t otherwise be available.
5. Stand out from the crowd
Sole traders and partnerships do not necessarily have a unique name, whereas there can only ever be one active UK limited company with any particular name. Once you’ve registered a company with Companies House, your new company name is protected and nobody can use the same name or even a name that’s too similar.
6. There can be tax benefits
Sole traders and partners in a partnership pay income tax while companies pay corporation tax and rates are lower than income tax rates.
On top of this a company can also pay dividends to its shareholders on top of employee salaries. A shareholder director will therefore often choose to receive the most tax efficient mix of salary and dividends.
It is also worth noting that companies generally have a more benign set of rules around allowable expenses. There is a range of allowances and tax-deductible costs that can be offset against a company’s profits.
7. Pension possibilities
Rather than an employee director funding pensions out of taxed income, the company can make pension contributions. A company will often be able to make a higher tax relievable pension contribution than an individual and contributions will usually be a tax deductible expense for the company. It should therefore gain corporation tax relief against the value of the contribution.
There are no National Insurance Contributions for an employer or employee on pension contributions and contributions are generally not taxable for the employee.
8. You have options when raising new capital
While sole traders and partnerships generally have to raise new capital from their own resources, companies are able to raise capital at any time by issuing new shares. The new shares can be offered to existing shareholders or new investors, although only public limited companies can offer shares to the public.
On top of this, if the company is going to borrow money from a bank it may be possible to secure the loan without the need for the directors to give a personal guarantee.
9. Dormant companies can be set up
A company does not have to trade to exist. It can be dormant which means it has made no ‘significant accounting transactions’ during its financial year. This can be useful if have an idea and a name for a business but not yet the time or capital to develop it.
10. Exit from the business
Registering a business as a limited company can aid the possibility of selling it in the future, which can be difficult to achieve with other business structures.
Entrepreneurs’ relief against capital gains tax may also be available on the sale of the business.
By Henry Catchpole, Inform Direct