Limited Companies

Operating through a Limited Company offers several advantages over a Sole Trader, but it’s not without its downsides. Let’s take a look at the key differences.

What’s the difference?

With a Sole Trader its fairly obvious; ‘you’ are the business and the owner.

A company is its own separate legal entity. It is owned by shareholders. It is run by its directors who have a legal obligation to act it the companies (not yours) best interests.

Accounts and Tax

For a Sole Trader its straightforward. Your accounts will usually be prepared on a cash basis and your tax return is done via self-assessment to income tax. Things are more complex for a company. Accounts have to be prepared under a prescribed format (FRS 105 or 102) and the accruals concept followed. These are submitted to Companies House. The company pays Corporation tax and this is submitted to HMRC via a CT600. Any profits extracted by the director require reporting through self-assessment.

Tax on Profits

Sole Traders pay Income Tax and National Insurance (Class 2/4). Companies pay Corporation tax at 19% up to £50,000 and 25% thereafter.

Extracting Profits

As a Sole Trader, your money is yours. Once its reported via self-assessment and the tax paid that’s it – no more to worry about. For companies, there are various ways to extract cash from the company. The most common method is to take a modest tax efficient salary and pay any additional monies as a dividend. The exact figures vary by individual dependent on things like child benefit, any other income, your partners circumstances etc.

Loans and Borrowing

As a Sole Trader this won’t apply. Your money is yours and you cannot lend or borrow from yourself. Companies however can borrow to fund investment or working capital. They can also lend money, including to you, the director. This gives some good tax planning opportunities, but care must be taken. Tax charges called section 455 apply to anyone thinking of using the company bank account like a piggy bank!

Flexibility

Running a company gives much more flexibility in terms of planning. For example, if cash is not immediately required it can remain in the business. This may be useful if your other income is particularly high in a tax year due to property disposals for example. There are many tax benefits for companies. Electric vehicles, Laptops and ‘trivial’ benefits up to £300 to name just a few.

Additional Expense

Of course running a company is a serious undertaking. You’ll need an accountant to set things up and ensure you stay complaint with HMRC and Companies House. There are directors obligations to consider, and your insurance and finance costs will usually increase.

Summary

Converting to a company or starting one from scratch is not a decision to discuss with Dave down the pub. Get proper advice from an accountant. We’ll crunch the numbers so you don’t make an expensive mistake.