When starting a business there will often be a point when you think of forming your business into a limited company – perhaps before you collect a penny. So why should UK businesses look at limited company formation?

limited liability company, staring a business

If the business fails then the debts don’t follow the business founders. This can be limited in big loans by the practice of most banks insisting on small companies backing up loans with the assets of their directors – often asking for director’s homes to act as collateral for business loans. However this will not apply to all debts. This can be especially useful for a start up business in a higher risk sector.

Legal Damages for Employee Actions

If you find that one of your colleagues has put you in a position where you are liable for legal damages the difference between a limited company and being a sole trader becomes key. If you were self employed and taking on staff, then you would be liable for your employees’ actions– even if you specifically forbid them. If you operate as a company then the company will be the employer and you will be liable to the extent that you are directly responsible.

Raising Capital

A UK limited company can give you another vehicle for raising capital. You can sell shares in your company without losing control. The investors will be willing to share the risks with you in return for a bigger share of the reward. Loan finance has its place but equity finance can be a better option for a new start up business, especially in a high risk industry.

Tax Rates

In most, although not all, cases a company will benefit from a lower rate of Corporation Tax compared to the rate of Income Tax in the UK. For example if you were earning £15,000 you would find that you would be paying just short of £2000, while in a company - if you were also paying yourself a £5000 salary you could get away with paying almost no income tax. You also have some ability to take out your profits as dividends (as does your spouse) which are effectively tax free for people who are not paying tax at the higher rate.

There are disadvantages – for example losses can be harder to offset against your other income and sometimes the corporate tax rate may be poor compared to the personal tax rate. You also may find that corporate tax rates may be targeted by a future Chancellor of the Exchequer as the tax advantages are becoming quite widely known. If tax is an element in your decision to set up a company then we would recommend that you see an accountant first.

Accountability

Although company directors often – with some justification – complain about the red tape from regulations that result from limited company formation in the UK there is some real value that comes out of the discipline of reporting that the regulations force on you. It means that you meet with your investors at regular intervals, that a decent set of accounts monitors your progress and that in some cases you will bring in an auditor to check that your understanding of the business is correct. What we usually find is that these disciplines find problems at an earlier and more manageable stage than otherwise, even if they appear to be a real pain at the time.

Business Continuity

In small family businesses it is often very hard to decide when to hand over the reins to the next generation. Although you can give your children a large amount of responsibility in the business, the ultimate control can be very much an all or nothing affair. The ability to split capital that is available to a company can become very useful here. Control can be gradually given to your children through a gradual release of shares. The ability to gradually release shares also means that inheritance taxes can be planned for more effectively, and you also have a new way in which to collect income from your business while allowing day to day running – and control to pass to others.

Selling the Business

Because a company can legally last for ever then it is much easier to sell a business – or part of a business – in a limited company to a new owner. As all your creditors and debtors will have signed their contracts with your company then they will see no change, or awkward contractual clauses. Similarly your employees will still be working for the same employee that they were the day before – it’s just the owner of that employer who has changed. If it is simpler and more transparent to buy a business – then that business will attract a higher price.

Legitimacy

A limited liability company is often seen as a more stable entity than a sole trader. This is often only a matter of image, but it is a potent fact in business life today. Whether it is trade creditors, banks, the taxman or most importantly customers – the three letters “ltd.” can have a magic effect out of all proportion to its actual significance. They probably have that same magic effect on you.

Employee Motivation and Retention

A sole trader often faces the cruel problem of how to motivate his or her key employees. They work hard for you, and you will be in real trouble if you lose them, but sometimes extra wages or even bonuses don’t seem to motivate them in the same way that extra profits motivate you. Running a company can deal with this situation by allowing you to give small – or large – chunks of your business to your employees. You may offer to sell some of the stock, or offer options or even give it as a bonus. You don’t just motivate and retain your key staff – you also get them to see the company as their company, and to see it through your eyes.

Next Steps

There is a hard way and an easy way to starting your own company. The hard way is to get all the relevant documents and forms, fill them in (without any mistakes) and send them off with the correct fees to Companies House. The more pleasant – and less time consuming – method of limited company formation in the UK is to retain us, give us the important details and let us draw up the documentation. We look forward to doing business with you.

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