Is being a limited company STILL a good idea?

Kirsty Young Advice and Tips, Limited Company

Over the past decade, the government has slowly chipped away at some of the great tax savings that were available to a limited company owner.

In the past, we would look to incorporate (turn into a limited company) any business owner with a profit of more than about £16,000 a year. Becoming a limited company made such a large tax saving, it offset any accountancy costs of forming and running the company.

Sadly these days are now gone, but there is still a very good reason the large majority of our business clients are limited companies. In the right scenarios, they still save a lot of money!

So whether you are thinking about becoming a limited company or are just wondering if you should still be one … read on!

 

4 scenarios where a limited company just ‘works’.

These are some of the most common situations we see where forming a limited company makes financial sense.

1. You have profits over £40k

If you are a sole trader or are self-employed, and have profits over £40k, the tax savings of being a limited company begin to generally outweigh accountancy costs. (That’s the cost of your accountant preparing your company accounts, and filing company paperwork such as tax and Companies House returns, etc.)

    • These savings are often achieved by setting up a ‘pay’ structure for you as the owner, that means you just pay a lower rate of tax overall.
    • You also tend to retain a lot more cash in the business due to the way limited company tax payments work compared to that of a sole trader or partnership.

In short, you pay vastly reduced ‘payments on account’ than you do as a sole trader, so it’s less of a drain on your cashflow. (More on how payments on account work in scenario 4 of this article.)

2. You can split your income with another

If you share income in the household with another person who you don’t mind (and they don’t mind!) being a part owner of the company, the savings can get pretty crazy pretty quick! This is stereotypically scenarios between married couples. If one of you is not earning over £50k per year, there can be some big tax savings.

For example, if your company could pay out £100,000 in ‘pay’ per annum:

    • If this was done to one person via the common ‘some salary, some dividend (profit)’, you would pay around £20,000 in personal tax.
    • If you split this dividend income between you two (presuming no other income), and where the company employs both of you for a small salary, the tax bill is around £6,500 a year.

3. Your business has inherent risk, you are going to be VAT registered, or becoming an employer

Limited companies come with ‘limited liability’. This means that if things go wrong and the company can no longer pay its debts, you usually get to walk away without losing your house or personal assets. BUT (and it’ a big BUT) if you have mismanaged company funds, acted criminally, signed personal guarantees or owe the company money personally, this ceases to be true.

Limited liability (hence the name limited company) has benefits in certain scenarios.

    • Liquidation: A doomsday scenario might be that your (non-limited) small business gets bumped for a £100,000 invoice. As a result, you can no longer pay your VAT bill and your suppliers. If you had to stop trading in those situations, often you are able to walk away (via a liquidator) and go again with a new company.
    • Becoming an employer: It’s all too easy to get something wrong and have a claim against you, for example.
    • Being VAT registered: Non-payment of your invoices can really hurt as VAT is due to HMRC every quarter in the majority of cases.

All of the above are signs it’s time to seriously consider covering some of the risks with the limited liability that a company provides.

4. Side hustling and ‘money boxing’

In the following scenarios, a limited company can work really well, if:

    • You are already employed, particularly if you are earning over £50,000 per year.
    • You don’t need the money now.
    • You want to reinvest profits in company growth, pensions or property.
    • You want to draw the profits over time when you need them.

This is because with a limited company, you are in control of when the money comes to you personally.

As a sole trader you do not have this control, you just pay income tax and national insurance on whatever the profits are on paper, regardless of what you do with the money. This often means paying tax at 40%+ on those profits.

The company however will pay tax on profits at 19 – 25% only. Any further tax is only due when the money comes into your hands (usually via dividend as a shareholder or as a salary).

So if you left the profits in the company for building the business, there will be no further tax. This is a great way to ensure you have more cash to build the business.

 

Is limited right for you?

If you fit into any of these scenarios, a limited company could be a good plan. Take our short quiz to see whether a limited company could be a good fit for you.

Or just get in touch:

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About the author:

Dan Heelan is the Business Services Director of Heelan Associates, an accounting firm that helps small business owners across the UK start, survive, and grow.

With a background as a small business owner himself, he discovered his passion for accounting and tax early in his journey and now focuses on empowering fellow entrepreneurs with the knowledge and tools to navigate the financial side of running a business.

You can see and hear Dan in action in his regular: