It is often said that operating under a limited company is one of the safest and most tax efficient ways to operate a business.
What is a limited company?
A limited company offers an extra layer of protection to working as a sole trader. If a limited company gets into trouble the directors are only liable by their shareholding. This is known as ‘limited liability’.
There are two types of individuals listed in a limited company – shareholders and directors. Shareholders are the owners of the limited company. Directors are the employees that oversee the day-to-day running of the business. It’s possible for an individual to be a shareholder and a director. This is particularly common in small limited companies.
Limited companies are legally obliged to file company accounts. These are annual accounts and visible on public record at Companies House. Limited companies must also complete and pay corporation tax returns – more on this shortly.
Pros of operating a limited company
- Limited liability
Your exposure is limited to the share capital of your limited company.
- Legal continuity
The company exists as its own entity, separate from its owners and managers.
- Transfer of ownership
It’s often easier to transfer the ownership of limited companies.
Banks are often happier to approach limited companies with finance.
Some clients and businesses may be more willing to work with you as a limited company.
- Pension schemes
Schemes open to directors of limited companies can often be more generous than those available to sole traders.
- Staff incentives
As with business succession, it’s also easier the incentivise staff as a limited company than as a sole trader.
Cons of operating a limited company
Greater level of admin burden in dealing with HMRC and Companies House.
Certain details must be made available to Companies House e.g. company accounts, shareholder details.
- Transactions with the business owner
Taking money out of the company needs to be dealt with more carefully as it can create issues further down the line.
- Director’s responsibilities
Although limited companies offer limited liability, there are instances where directors can be found personally responsible.
Our video guide to setting up a limited company
How to create a limited company
If you are thinking of setting up a new limited company, make sure you follow these eight simple steps:
- Make sure a limited company entity is right for you
If you are unsure what a limited company is and whether it’s the right business structure for your start-up, it’s always best to double-check with an accountant first.
- Choose a business name
Remember, this will be the company’s name. You cannot use anything offensive or explicit. Your chosen name cannot be close to an existing business’ name or trademark as this could incur legal action.
- Choose the directors and company secretary
The directors are the individuals that will oversee the day-to-day running of the business. A company secretary used to be a mandatory requirement, but this is no longer the case and is now optional.
- Choose the shareholders
Typically the business owner(s) are the shareholders of the limited company. However, you may wish to include other business partners, family or friends as shareholders too.
- Identify people with significant control
Individuals with significant control are those with voting rights within the limited company. Those with over 25% of shares in the business, these are automatically considered people with significant control.
- Prepare legal documents explaining how you will run and look after the company
The formal name of these legal documents is the ‘Articles of Association’ or the ‘Memorandums of Association’. They are the rule book of the company that directors and shareholders must adhere to.
- Check what records you need to keep
Limited companies should keep a copy of their incorporation certificate, which states your limited company name and registration number. You should also keep your legal documents, as well as bank statements, invoices etc.
- Register your company
Registration of a new limited company is made formally through Companies House. You must provide an address which will be on public records. You should also register your company with HM Revenue and Customs (HMRC) too, as you will be taxable on eventual profits at a later date.
What are the responsibilities of a limited company director?
As a director of a limited company, you must oversee the following tasks:
- Maintain the company’s rules, as shown in its articles of association
- Keep company records and report changes
- File your accounts and your Company Tax Return
- Tell other shareholders if you might personally benefit from a transaction the company makes
- Pay Corporation Tax
Limited companies and corporation tax
We’ve already said that corporation tax is a key responsibility of any limited company and its directors, but what does it entail?
Corporation tax is paid by all profit-making limited companies across the UK. It is a tax on annual profits earned in a tax year, paid in the same way as income tax for PAYE employees and sole traders.
The corporation tax rate is 19% at the present time. However, in his Budget 2021 statement, Chancellor Rishi Sunak confirmed an increase from 19% to 25% from 1st April 2023. This increase has been introduced to help the UK government deal with the national debt accrued during the COVID-19 pandemic.
Salaries and dividends from limited companies
As a director of a limited company, you are also treated as an employee for the purposes of taxation. This means you can take a salary from the company and even benefit from doing so.
As a shareholder of a limited company, you are also entitled to receive dividends from the company. It is possible to receive a director’s salary and shareholder dividends simultaneously.
Paying yourself a salary
Any salary paid to directors is deductible from a limited company’s corporation tax. The company will therefore receive corporation tax relief in the period that this is paid.
This salary must be paid to directors via the Pay As You Earn (PAYE) system. This salary will contribute to a director’s UK personal allowance, which is the amount an individual can earn before paying income tax. As of the 2021/22 tax year, this figure is £12,570.
Beyond this amount, director salaries are subject to income tax at three rates, depending on how much you earn:
- Basic rate (20%)
- Higher rate (40%)
- Additional rate (45%)
- Starter rate (19%)
- Basic rate (20%)
- Intermediate rate (21%)
- Higher rate (41%)
- Top rate (46%)
As well as income tax being due on your director’s salary, there is also national insurance contributions (NICs) to consider.
If you take benefits from your limited company, you will also have to take these into consideration. Things like work cars, mobile phones, employer pension contributions are all included in this bracket.
Typically, these are taxable at the income tax rates, although some company benefits are exempt.
For example, a work mobile phone provided to an employee, without a restriction on private use, is a tax-free benefit providing only one phone is supplied. Employer pension contributions are also exempt from taxation.
While the issue of COVID-19 remains, it’s possible that members of your team will be working from home. The payment of £6 a week for the additional household expenses incurred by your employees is also non-taxable.
Limited company dividends can only be paid to shareholders when the company makes a profit or has profit reserves. The first £2,000 of taxable dividends is tax-free. The remaining dividends you receive are taxed at the following rates:
- Basic rate – 7.5%
- Higher rate – 32.5%
- Additional higher rate – 38.1%
Director’s loan account
A director’s loan account is established by limited company shareholders that put more money in or take money out of their company. The money is not considered a salary or dividend. Nor is it money you’ve previously paid into or loaned the company.
There may be tax implications depending on whether you owe money to your company and are considered overdrawn, or indeed if the company owes you:
If you owe money to your company, your company must pay S455 tax on this amount at a rate of 32.5% if you don’t repay it within nine months of your year end.
If you owe more than £10,000 and didn’t pay interest (at least the official rate to the company) for any amount overdrawn then you will be taxableed personally on the interest element. This is because it will be considered a taxable benefit.
The company owes you
If your limited company owes you, you can always charge your company interest, but remember it will be taxable on you personally.
Allowable expenses for limited companies
When it comes to claiming expenses for your limited company, these expenses must be incurred wholly and exclusively for the day-to-day running of your business.
You cannot claim for expenses that have a dual purpose for business and personal use.
It’s best to pay your business expenses through your company’s bank account. Alternatively, you can reclaim the costs of business expenses paid by you and be later reimbursed via your company.
Filing deadlines for limited companies
There are multiple filing deadlines to remember when it comes to maintaining your reporting and tax obligations as a limited company:
|File your first accounts with Companies House||21 months after the date you registered with Companies House|
|File your annual accounts with Companies House||9 months after your company’s financial year ends|
|Pay Corporation Tax or inform HMRC that your limited company does not owe any||9 months and one day after your ‘accounting period’ for Corporation Tax ends|
|File a Company Tax Return||12 months after your accounting period for Corporation Tax ends|
|File your Confirmation Statement||
Your 12 month review period begins on either:
Let us help decide which business structure is right for your start-up
If you are unsure whether a limited company is the most suitable business entity for your new business, please don’t hesitate to contact our friendly and experienced team.
Our accountants can discuss your unique circumstances and undertake a thorough risk assessment to help you decide the best way forward for your business – limited or otherwise.
Date published 15 Apr 2021 | Last updated 10 Jun 2021This article is intended to inform rather than advise and is based on legislation and practice at the time. Taxpayer’s circumstances do vary and if you feel that the information provided is beneficial it is important that you contact us before implementation. If you take, or do not take action as a result of reading this article, before receiving our written endorsement, we will accept no responsibility for any financial loss incurred.