In the UK, entrepreneurs have the choice of operating as a sole trader or setting up a limited company. While both structures have their advantages and disadvantages, forming a limited company has several benefits over being a sole trader. In this article, we will discuss the advantages of being a limited company and the factors that you should consider before forming one.
Firstly, a limited company is a separate legal entity from its owners, meaning that the company’s finances are distinct from the personal finances of its shareholders. This separation offers limited liability protection to the owners, which means that they are not personally liable for the company’s debts and obligations. In contrast, a sole trader has unlimited liability, which means that their personal assets are at risk in case the business runs into financial trouble.
Moreover, a limited company structure allows for greater flexibility in terms of raising capital. Limited companies can issue shares to raise funds, and they are also able to apply for loans and credit facilities more easily. This increased access to finance can help the company to grow and expand more quickly than a sole trader, who may struggle to secure funding.
According to data from the Office for National Statistics (ONS), the number of active limited companies in the UK increased by 5.5% between 2019 and 2020, reaching a total of 1.77 million. This growth highlights the popularity of the limited company structure among UK businesses.
In addition to the limited liability protection and increased access to finance, forming a limited company also provides tax benefits. Limited companies are taxed on their profits at a corporation tax rate of 19%, which is generally lower than the income tax rate for sole traders. Furthermore, limited companies can also claim a wider range of business expenses, which can reduce their tax liability further.
However, forming a limited company does require more administrative work than operating as a sole trader. This includes registering the company with Companies House, maintaining accurate records, and submitting annual accounts and tax returns. These additional responsibilities can be time-consuming and may require professional assistance from accountants or lawyers.
Before forming a limited company, it is important to consider several factors. These include the costs associated with incorporating, such as registration fees and ongoing accountancy costs. Additionally, you should consider the nature of your business and whether a limited company structure is appropriate for your needs.
Pros of a Limited Company:
- Limited Liability: As mentioned earlier, a limited company is a separate legal entity from its owners, and this separation provides limited liability protection to the owners. This means that if the business runs into financial trouble, the owners’ personal assets are not at risk.
- Increased Access to Finance: A limited company structure provides more opportunities to raise funds. Limited companies can issue shares, apply for loans and credit facilities, and enjoy a better credit rating, making it easier to secure financing.
- Tax Benefits: Limited companies enjoy lower tax rates and can claim a wider range of business expenses. This can reduce the company’s tax liability and increase profits.
- Credibility: Limited companies often enjoy greater credibility and status than sole traders. This can help when dealing with suppliers, customers, and other stakeholders.
Cons of a Limited Company:
- Administrative Burden: Forming a limited company requires more administrative work, such as registering with Companies House, submitting annual accounts and tax returns, and maintaining accurate records. This can be time-consuming and may require professional assistance.
- Increased Costs: The cost of incorporating a limited company can be higher than operating as a sole trader. Additionally, ongoing accountancy costs, legal fees, and other expenses can add up.
- Less Privacy: Limited companies are required to make certain information public, such as the company’s directors, registered address, and annual accounts. This can affect the owner’s privacy.
Pros of a Sole Trader:
- Easy Set-Up: Operating as a sole trader is easy to set up and requires minimal administrative work. The owner can start trading immediately.
- Control: Sole traders have complete control over their business and decision-making, and they can keep all profits.
- Privacy: Sole traders can keep their business affairs private and do not have to disclose information to the public.
Cons of a Sole Trader:
- Unlimited Liability: Sole traders have unlimited liability, meaning their personal assets are at risk if the business runs into financial trouble.
- Limited Access to Finance: Sole traders may have limited access to finance as they cannot issue shares or apply for loans as easily as limited companies.
- Credibility: Sole traders may have less credibility than limited companies, which can impact their ability to attract customers, suppliers, and investors.
In conclusion, forming a limited company offers several advantages over being a sole trader, including limited liability protection, increased access to finance, and tax benefits. However, the administrative requirements and costs associated with incorporation should also be considered before making a decision. With careful planning and professional advice, a limited company structure can provide a solid foundation for the growth and success of your business.