Not sure if you need to incorporate your company now, or just wait a bit until business picks up and you are ready to expand? Our Co-founder and CFO, Jon Dudgeon, shares the top reasons why business owners take the step to limited company incorporation. See if any apply to you.
There are currently over 4 million limited companies incorporated in the UK.
Limited company incorporation is often preferred to a sole trader or partnership structure for one or more of the following reasons:
It’s quick and easy to incorporate a limited company
These days it is really easy to set up a limited company. Long gone are the days of waiting weeks for Companies House to process the paperwork: now you can start a limited company in just a few hours.
The company you incorporate is a separate legal identity
A limited company has its own legal identity. This means that limited company incorporation protects the owners/shareholders against personal liability as third parties contract with the ‘company’ and not the individual directors and shareholders. Incorporating a limited company puts a wall between the owner and the business. This means:
- As long as the company (and, by default, its directors) complies with the companies act 2006, then creditors/court judgments generally cannot reach an owner’s personal assets to satisfy the company’s liabilities.
- companies survive the death of the owners and it’s possible for the directors and shareholders involved with the company to change over time.
For this reason, people usually want to incorporate/form a limited company before launching their product or service, since the risk of liability increases once you add in customers, users, or clients.
Always read the small print though. Banks and major suppliers will often ask for a ‘personal guarantee’ from the directors.
It makes things clear for founders/partners
When a business has more than one founder, there’s always a chance of an argument over how equity should be split – no matter how close the owners may be.
Incorporating a limited company and issuing shares to the founders will prevent misunderstandings among equity splits right from day one through to exit.
You can issue share options
Many entrepreneurs choose to compensate employees by granting share options through tax-efficient methods e.g. EMI schemes, or offering the opportunity to purchase equity at a low price.
This can attract and retain key talent at the beginning of a business when cash is tight.
You can receive startup funding, and it gives you options when raising finance
Venture capitalists and Angel investors prefer to work with limited companies, since they allow for different classes of shares and tax advantages via EIS and SEIS.
The creation of one or more new share classes can be used to offer flexibility in rights to vote and therefore control the company, receive dividends and extract capital if the company is wound up.
While the company may be established so new shareholders can easily be introduced, it is also possible to include pre-emption rights to protect the interests of existing shareholders (i.e. the founders).
Limited company incorporation can come with credibility and prestige
The formation of a private limited company can suggest that the business has permanence and is committed to effective and responsible management. It gives both suppliers and customers a sense of confidence. And many companies, particularly larger businesses, will not deal with an entity that’s not a limited company.
Incorporating a business can therefore open up new business opportunities that wouldn’t otherwise be available.
The new setup company will have a unique name, as there can only ever be one active UK company with any particular name. Once you’ve registered a company with Companies House, your new company name is protected and no-one can use the same name or even a name that’s too similar.
There can be tax benefits
Newly incorporated companies pay corporation tax, which is lower than income tax rates.
As well as salary payments to employees, a company can also pay dividends to its shareholders. A shareholder director will therefore often choose to receive the most tax-efficient mix of salary and dividends.
Provided a minimum level of salary is taken, the director retains entitlement to certain state benefits without any employee or employer National Insurance Contributions being payable. The balance of remuneration is sometimes taken as dividends, which may suffer less tax than salary and which are not themselves subject to National Insurance Contributions. Dividends would, however, be from company profits liable to corporation tax.
Watch out. We’re expecting some changes to the tax environment over the next couple of years. Don’t incorporate purely because of perceived tax benefits.
It has benefits when you want to exit the business
Registering a business as a limited company can aid the possibility of selling it in the future, which can be difficult to achieve with other business structures.
The original owner may be able to achieve a completely clean break and receive some financial benefit to help fund their future lifestyle – or the start of another business!
Business Asset Disposal Relief (formerly Entrepreneurs’ relief) against capital gains tax may also be available on the sale of the business.
Lastly, it depends on personal preference
The decision on whether or not to incorporate a company can simply come down to personal preference. If you are familiar and comfortable with running a company then incorporating a new company will seem entirely natural, and probably is a preferred course of action.
In many circumstances, running your business as a limited company can offer a strong base on which to expand and develop. Many large and successful businesses have been grown from small limited companies, sometimes bringing great financial rewards – as well a lot of enjoyment – to those who’ve put in so much work to nurture them.
If you decide a limited company is right for your new business, get in touch to discuss how Blu Sky can help you get off the blocks. Just email dave@blusky.co.uk.
