Should I set up my business as a limited company?

A limited (or limited liability) company is a structure that you can use to run your business – it’s responsible in its own right for everything it does and its finances are separate to your personal finances.  

As a separate legal entity it can enter into contracts in its own name. Business dealings are made on behalf of the company, rather than the owners. Its owners are protected by limited liability. This means they are only responsible for business debts up to the value of the amount they invested.

Any profit it makes is owned by the company, after it pays Corporation Tax. The company can pay out its profits (after tax) to its shareholders in the form of dividends. 

The company must have at least one director to manage the business and a company secretary to make sure all the rules are followed and official records maintained.

The advantages of setting up a limited company are:

• the liability for shareholders is limited
• shareholders (often family members) can be employed by the company
• taxation rates can be more favourable
• you’ll have access to a wider capital and skills base
• Improved status externally.

Disadvantages include:

• the reporting requirements can be complex
• there are more costs to set up 
• the company must incorporate with Companies House
• the companies financial affairs are public
• if directors fail to meet their legal obligations, they may be held personally liable for the company’s debts.

It depends on how you acquire your funds. If you take a salary through your company this will be treated as normal income, and the usual 20%, 40% and 45% tax rates will apply. If you make pension contributions from the company into the director’s personal pension, then this will be an allowable expense to the company and will not be taxed on the director until he starts to draw on it, so many directors see this as an attractive option.

Salary, benefits and rental income are all treated as non-savings income and will be taxed first using the normal income tax rates. Interest will be taxed next. There is a potential to tax £5,000 of interest at 0%. There are conditions here and you should speak to a professional to see if you are eligible for this 0% rate.

In terms of dividends, the first £500 of dividends are tax-free with the remainder being taxed at 8.75%, 33.75 or 39.35% where dividends fall in the basic, higher or additional thresholds.

As a director of a limited company, you must:

• try to make the company a success, using your skills, experience and judgment
• follow the company’s rules, shown in its articles of association
• make decisions for the benefit of the company, not yourself
• tell other shareholders if you might personally benefit from a transaction the company makes
• keep company records and report changes to Companies House and HM Revenue and Customs (HMRC)
• make sure the company’s accounts are a ‘true and fair view’ of the business’ finances
• file a Company Tax Return and pay Corporation Tax
• register for Self-Assessment and send a personal Self-Assessment tax return every year – unless it’s a non-profit organisation (e.g a charity) and you didn’t get any pay or benefits, like a company car.

You can hire other people to manage some of these things day-to-day (e.g an accountant) but you’re still legally responsible for your company’s records, accounts and performance. You need to ensure you are organised. There are penalties for failure to submit corporate tax returns and accounts. You also need to ensure you keep all of your paperwork such as dividend vouchers.

Company accounts are complicated, it’s best to work with an accountant. Usually, accountants will quote you an annual fee which includes all the company regulatory and compliance work and your personal tax returns too.

Although the directors of a limited company are not normally held liable for the debts of the company, frequently the courts on behalf of the creditors can deem one or more of the directors liable for the company’s debts during a formal insolvency procedure. The rules are complex here and professional advice is recommended.