Private company limited by shares advantages and disadvantages

Choosing the best legal structure for a new or existing business requires careful consideration. Two of the most popular structures are sole traders and private companies limited by shares. There are pros and cons to both. However, the limited company advantages typically surpass the benefits of operating as a sole trader.

In this post, we provide an overview of the advantages and disadvantages of a limited company. To provide a fair comparison, we also outline the pros and cons of running a business as a sole trader. This information should help you make an informed decision. However, it’s always worthwhile speaking to an accountant for professional advice tailored to your specific needs.

Top 10 limited company advantages

The principal reasons for trading as a limited company are flexible ownership, limited liability protection, and tax efficiency. There are also several lesser-known advantages over the sole trader structure. Below, we discuss each of these in turn.

1. Flexible ownership

The limited company structure offers flexibility regarding ownership and internal management arrangements. In a private company limited by shares or guarantee, you must have at least:

• one member (shareholder or guarantor) who owns and controls the company by holding at least one share or providing a guaranteed sum to the company
• one director who manages the company

These two roles can be held by the same person or different people. This means you can set up a private limited company by yourself (as the sole member and director) or with others.

The difference between directors and shareholders

Registering a company: a simple step-by-step guide

Share transfers from one person to another

Unlike the sole trader structure, companies can have different owners and directors throughout their existence. They can issue shares to new investors or admit new guarantors at any time.

Existing shareholders can also sell or transfer some or all of their shares to others. Given that the articles of association allow it, shareholders can also hold shares in different share classes with various rights attached to them, providing greater flexibility over ownership, control, and financial rights.

The ability to differentiate between different members through different classes provides greater flexibility. Moreover, members can appoint and remove directors. This means you can appoint someone else to run the business.

2. Limiting personal liability

One of the biggest benefits of forming a company is limited liability protection. If your company runs into trouble, your personal finances and assets are secure beyond what you’ve agreed to pay. This is because a limited company is treated as a separate legal entity—a legal ‘person’ in its own right. As such, the company is entirely distinct from its members and directors.

Any debt, losses, or legal claims associated with the business are the company’s responsibility. If it becomes insolvent (bankrupt) and can’t afford to pay its creditors, the members are only liable up to the nominal value of their unpaid shares or guarantees. Beyond that, their personal assets are protected.

Are company directors liable for its debts?

What does limited liability mean?

All Inclusive Package Special Offer - limited time only, save 40%

It’s common practice to set the nominal value of shares and guarantees at £1. This means your liability could be as little as £1, depending on the number of shares you hold or the guarantee amount you provide. 

However, directors may be liable in rare instances, such as fraud, wrongful trading, or breaching their directors’ duties.  Likewise, if any members or directors provide personal guarantees to creditors for company borrowing or other contractual arrangements (e.g. commercial leases).

3. Tax efficiency and planning

Limited companies in the UK pay between 19% and 25% Corporation Tax on profits, whereas sole traders pay 20-45% Income Tax (or 19-48% in Scotland) on their profits. These lower company rates, together with more flexibility on how and when money is taken out of the company as personal remuneration, offer greater potential for tax efficiency and flexible tax-planning strategies.

Tax-efficient personal remuneration 

You can reduce your Income Tax and National Insurance contributions (NICs) by taking a combination of a director’s salary through PAYE and dividend payments from shares in a limited company.

If you keep your director’s salary below the NIC Primary Threshold (£12,570), you won’t have to pay any Income Tax or employee Class 1 NIC on those earnings. Furthermore, the company won’t have any Corporation Tax liability on the salary because wages are a tax-deductible business expense.

You can take the rest of your income as dividends, which are paid from profits after the deduction of Corporation Tax. You will benefit from the annual £500 dividend allowance, so you won’t pay any personal tax on the first £500 of dividend income.

Above this sum, you will be required to pay dividend tax. However, dividend tax rates are much lower than Income Tax rates. Depending on your level of annual profits, you could lower your personal tax liability by operating as a limited company and strategically planning your remuneration.

Reinvesting surplus cash

Rather than withdrawing all available profit and paying more personal tax on top of the company’s Corporation Tax liability, you can retain surplus income in the business to pay for future operational costs and grow the company.

This makes more sense than taking all profits as personal income, paying higher Income Tax rates, and reinvesting your own post-tax earnings when the business needs additional capital.

Deferring personal income

You can defer the withdrawal of profits to a later tax year when a lower personal tax rate may apply. This is an efficient strategy if removing all profit in the year it’s generated would put you into a higher Income Tax band or dividend tax bracket.

4. Professional status

Trading as a limited company rather than as a sole trader can considerably improve your professional status and image. This difference in perception stems mainly from the fact that incorporated businesses are more rigorously monitored. 

Limited companies have more complex accounting and reporting requirements and much greater statutory compliance obligations, and their corporate details and accounts are publicly available on the Companies House register.

A more professional image, coupled with the benefits of corporate transparency, can benefit your business in many ways, such as:

• Attracting new clients and investors
• Accessing a wider range of lending opportunities
• Expanding into different locations or markets
• Creating a valuable and trusted brand identity
• Competing on an even playing field with other businesses in your industry sector

Whilst the activities, ownership structure and internal management of the business may be the same whether you operate as a sole trader or limited company, the latter structure is typically held in much higher regard.

5. Separate legal identity

Unlike the sole trader structure, a limited company is a legal ‘person’ in its own right, with an entirely separate identity from its owners and directors. This means that companies can enter into contracts in their own name and are responsible for their own debts and liabilities.

As previously mentioned, the owners are only liable (in most cases) for the value of their unpaid shares or personal guarantees rather than the full extent of the company’s liabilities. If a company is insolvent, it is the business itself that becomes bankrupt, not the shareholders or directors.

Furthermore, companies enjoy perpetual succession beyond the original members and directors. As such, a company can be sold or transferred to other people at any time, continuing to operate regardless of who owns and manages the business. This is not the case with a sole trader business.

6. Credibility and trust

A private company limited by shares structure can add prestige and credibility to your business. In fact, certain businesses and agencies (particularly in the IT, finance, and construction industries) will only work with other incorporated businesses. This is usually due to the level of risk involved in the contracts they award.

If you’re likely to be dealing with sensitive information, complex IT projects, or large-scale construction contracts, for example, your clients may demand that you operate through an incorporated company. This would reassure them that if they ever need to claim against it, there will be recourse available. This is because the associated risk of such work is particularly high.

In most cases, sole traders are simply not considered for these types of contracts, so trading through a company is a great way to improve your competitive advantage.

7. Investment and lending opportunities

Private companies limited by shares can have multiple owners (or multiple shareholders), so raising additional capital by selling portions (shares) in the business to new investors is possible. 

Generally, companies also have access to more lending options than sole traders, and certain banks will only lend to incorporated businesses.

Furthermore, it is sometimes possible to secure a loan for a company without the need for shareholders or directors to provide security against their own assets.

8. Protecting a company name

All company names must be unique, so no two companies can be set up with the same name or even names that are very similar to one another. When you register a company, no other incorporated company can use the same name that your company is registered with. This same protection does not apply to the business name of a sole trader.

9. Pension contributions

If you are a director, setting up a limited company may also provide the opportunity to invest pre-tax trading income into a pension scheme through the company as the “employer” as opposed to making only personal contributions from your wages or other earnings. And since employer contributions are an allowable business expense, your company will receive tax relief against its Corporation Tax bill.

Whether this is an available and tax-efficient option for you will depend on your individual circumstances, so you must always seek advice from an accountant or tax specialist before contributing to a pension in this way.

10. Flexibility in how money is taken out

If you own a company limited by shares, you can issue or transfer shares to your spouse or partner and family members. This will allow you to split your business profits and minimise personal tax liabilities.

By issuing dividends to your spouse or children, for example, you can take advantage of their tax-free Personal Allowance, basic tax rate, and the £500 tax-free dividend allowance.

A practical guide to transferring shares

Issue more shares in a private limited company

Transfer shares in your company today - for only £69.99

This strategy can be incredibly beneficial if you are the sole or highest wage earner in your household or if you regularly provide financial support to your children. However, you should speak to an accountant or tax advisor before doing so.

Disadvantages of a limited company

There are certain disadvantages associated with limited company registration. However, for many people, most of these perceived drawbacks pale in comparison to the potential benefits on offer.

The most notable disadvantages of setting up a company are as follows:

• Limited companies must be incorporated at Companies House, and you will be required to pay an incorporation fee
• Company names are subject to stricter rules and regulations than sole traders
• You must maintain a registered office address in the UK jurisdiction where you choose to incorporate your company 
• You cannot set up a limited company if you are an undischarged bankrupt or a disqualified director
• Certain personal and corporate information will be publicly available on the Companies House register
• Accounting requirements are often more complex and time-consuming than those applicable to sole traders. As such, you may need to appoint an accountant to help you with your tax and accounting affairs.
• You need to follow strict procedures when taking money out of a company for personal use
• Limited companies have more filing and reporting requirements than sole traders. This includes filing an annual confirmation statement and annual accounts with Companies House and preparing a Company Tax Return and accounts for HMRC every year
• Companies must adhere to strict record-keeping requirements, including taking minutes of meetings and recording all formal decisions taken by directors and shareholders
• If you make any changes to your company details, you need to notify Companies House

Though many company owners manage such tasks, these compliance and accounting requirements can appear daunting at first. However, if you feel that you don’t have the time or experience to handle the administrative burden, you can appoint an accountant and professional company secretary to deal with certain aspects on your behalf.

Limited company vs sole trader

Setting up as a sole trader is one of the easiest things to do in terms of registration and administrative requirements. However, there is no legal distinction between the business and the owner.

This means that you would be wholly and personally responsible for all business debts and liabilities. Your home and other assets would be at risk if you were unable to meet your financial obligations or if legal action was taken against the business.

On the flip side, because there is no legal distinction between your personal finances and business finances, there is no need to go through any complex procedures to remove money for personal use.

Pros and cons of the sole trader structure

Pros	Cons
Quick and easy to set up online; no need to register with Companies House	Unlimited personal liability for debts and legal claims
No need to pay a registration fee to HMRC	More challenging to raise capital and acquire loans
Typically low startup costs and expenses	Can only be set up and owned by one person
Easy to remove profits for personal use	Required to pay Income Tax between 20 and 45% (or 19-48% in Scotland)
Minimal accounting costs and requirements	You pay Income Tax and NICs on all business profits
No requirement to disclose accounts or personal details on public record	Many firms refuse to do business with sole traders
No requirement to make business records available for public inspection	Not eligible for Statutory Maternity Pay
Minimal paperwork and record-keeping requirements	The professional status of sole traders isn’t as highly regarded as the limited company structure
No need to maintain a registered office address or service address	No option to defer withdrawals until a later tax year or reinvest surplus cash without paying tax
Fewer restrictions when choosing a business name	Pension options are less tax-efficient
You will own all business profits and assets	Unable to issue profits to a spouse or family member as tax-free dividend payments

Limited company or sole trader?

The sole trader structure is ideal for many small business owners. However, there may come a time when it is financially or professionally beneficial to consider limited company registration. If you reach that point, your first port of call should be a company registration service like Rapid Formations.

Your decision to choose the best structure for your business should be based on your personal circumstances and preferences. If you’re at all unsure, you should seek professional advice from an accountant or advisor. 

Please comment below if you have any questions. If you would like to register a limited company, visit the Rapid Formations homepage, where you can get started by choosing your new company name.