Starting a business as a private limited company (Ltd) can offer a range of benefits, including limited liability protection and potential tax efficiencies. This article explains how private limited companies work and the responsibilities involved in setting one up.
What is a limited company?
A limited company is a type of business structure with its own legal identity. This means the company is separate from the people who own and run it, and its finances are separate from their personal finances.
There are different types of limited company. Most small businesses choose to set up as a private limited company (Ltd), which is the type of company covered in this article. Larger businesses may operate as public limited companies (PLCs), whose shares can be offered to the public and traded on a stock exchange.
As a separate legal entity, a limited company can enter into contracts, own assets and take on liabilities in its own name. Business dealings are carried out by the company rather than its owners.
The owners of a limited company (known as shareholders) benefit from limited liability. This means their personal financial liability is usually limited to the value of their investment in the company.
Any profit the company makes belongs to the company. After paying Corporation Tax and meeting any other obligations, the company may distribute some of its profits to shareholders in the form of dividends.
A private limited company must have at least one director who is legally responsible for running the company and ensuring that its statutory responsibilities are met. A company secretary is optional for most private limited companies.
Why should I choose a limited company?
The advantages of setting up a limited company include:
- Limited liability. Shareholders’ personal financial liability is usually limited to the value of their investment in the company.
- Separate legal identity. The company can enter into contracts, own assets and borrow money in its own name.
- Potential tax efficiencies. Depending on your circumstances, operating through a limited company may offer tax planning opportunities.
- Flexibility in ownership. A company can have multiple shareholders, making it easier to share ownership or bring in investors.
- Professional image. Some customers, suppliers and lenders may view a limited company as more established or credible than a sole trader business.
- Business continuity. The company continues to exist even if ownership or management changes.
Disadvantages include:
- More administration. Limited companies have additional reporting and record-keeping requirements compared with sole traders.
- Public disclosure. Certain company information, including details held by Companies House, is available on the public register.
- Additional costs. There may be costs associated with incorporation, accounting, payroll and ongoing compliance.
- Directors’ responsibilities. Directors have legal duties and can face penalties or personal liability in certain circumstances if they fail to meet their obligations.
- Corporation Tax and filing obligations. The company must submit annual accounts and Corporation Tax returns and meet filing deadlines with both Companies House and HMRC.
Video: Should I register as a limited company or a sole trader?
by Informi
This video explores the benefits of trading as a limited company, explaining the differences between sole traders and limited companies and the various ways that a limited company can protect small business owners and inspire confidence in their businesses.
How do I earn income from a limited company?
As a director of a limited company, you can take money from the company in a number of ways, including:
- Salary
- Dividends
- Reimbursement of business expenses
- Director’s loans, where permitted
A salary paid to a director is usually treated as an allowable business expense for Corporation Tax purposes, although Income Tax and National Insurance may be due depending on the amount paid.
Many owner-managed companies choose to pay directors through a combination of salary and dividends. Dividends can only be paid from available company profits after Corporation Tax and are taxed differently from salary.
Directors may also be reimbursed for allowable business expenses incurred personally on behalf of the company.
In some circumstances, a director may lend money to the company or borrow money from it through a director’s loan account. Special tax rules can apply, so it is important to keep accurate records and seek professional advice where necessary.
Companies may also provide certain benefits to directors and employees, such as pension contributions or mobile phones, although specific tax rules apply.
The most tax-efficient way to take money from a limited company will depend on your personal circumstances, the company’s profitability and current tax legislation. Professional advice can help you determine the most appropriate approach.
What tax will I pay?
The amount of tax you pay will depend on how you take money from your company and your overall income.
If you receive a salary from the company, it will generally be subject to Income Tax and National Insurance in the same way as employment income. The company may also have National Insurance obligations as an employer.
Dividends are taxed differently from salary and can only be paid from available company profits after Corporation Tax has been paid. The amount of tax you pay on dividends will depend on your total taxable income and the dividend tax rates in force for the relevant tax year.
The company itself will normally pay Corporation Tax on its taxable profits.
Companies can also make employer pension contributions for directors and employees. Subject to the relevant rules and limits, these contributions may be an allowable business expense and can form part of an overall remuneration strategy.
The tax treatment of salaries, dividends, benefits, pension contributions and director’s loans can be complex. As tax rules and allowances change over time, it is often worth seeking professional advice to ensure you are taking money from your company in the most appropriate way.
What are my responsibilities as a director of a company?
As a director of a limited company, you must:
- act in the company’s best interests and use reasonable care, skill and diligence when making decisions
- follow the company’s rules, as set out in its articles of association
- avoid situations where your personal interests conflict with those of the company and declare any interests in company transactions
- keep accurate company records
- report certain changes to Companies House and HMRC
- ensure that the company’s accounts give a true and fair view of its financial position
- file annual accounts and confirmation statements with Companies House
- file Company Tax Returns and ensure Corporation Tax is paid when due
- comply with any PAYE, VAT or other tax obligations that apply to the company
- keep business records for the required period
There are penalties for failing to meet Companies House and HMRC filing deadlines, so it is important to keep accurate records and stay organised.
Depending on your circumstances, you may also need to submit a personal Self Assessment tax return.
Many company directors choose to work with an accountant, who can help with company accounts, Corporation Tax returns, payroll, VAT and personal tax matters. However, as a director, you remain legally responsible for ensuring that the company’s records, accounts and filings are accurate and submitted on time.
What are my risks if the business fails?
One of the main advantages of a limited company is that it has its own legal identity, meaning directors and shareholders are not normally personally responsible for the company’s debts.
However, there are circumstances in which directors can become personally liable. For example, this may happen if a director has given a personal guarantee for a business loan or is found to have acted improperly, fraudulently or failed to meet their legal duties as a director.
If a company experiences financial difficulties, directors must act in the interests of the company and its creditors and seek professional advice where appropriate.
The rules surrounding company insolvency and director responsibilities can be complex. If you are concerned about the financial position of your company, it is important to seek professional advice as early as possible.
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