Private Limited Company Advantages And Disadvantages

If you're a business owner in the UK, one of the biggest decisions you'll make is deciding the best business structure for your company. Whether you're starting a new business or taking the next steps in your entrepreneurial adventure, it's crucial to get this right.

While it's possible to change this at any stage, the consequences of opting for the wrong structure could have long-lasting effects and even spell disaster for your company.

As a trusted name in accounts and finance, Prescient Accounting is perfectly placed to offer sound, helpful advice to small business owners and others who need guidance on this matter.

In this blog, we're examining the private limited company structure to determine the pros and cons. This will allow you to make an informed decision and take your company down the right path towards success.

Why Is It Important To Choose The Right Business Structure?

There are many reasons, but most financial experts agree that these are the main ones to consider:

• Tax Implications - Different business structures are taxed differently. Sole traders pay income tax on their profits, while limited companies pay corporation tax on their profits. Understanding these tax implications can help you choose a structure that optimises your tax position.
• Personal legal and financial liability - The structure you pick determines how much personal liability you have for the business's debts. Sole traders have unlimited liability, meaning they're personally responsible for all financial obligations for the business, including losses, legal claims, and debts. Limited companies, on the other hand, offer limited liability, protecting your personal assets from business debts.
• Administrative requirements - There are varying levels of administrative burden associated with each structure. A sole trader business has minimal filing requirements, whereas limited companies have more complex reporting obligations to Companies House.
• Company image and credibility - The structure you choose can influence how others perceive your business. Limited companies often project a more professional and established image compared to sole traders, which can be advantageous when attracting clients and investors or securing loans.
• Growth potential - Some structures are more adaptable than others. If you plan on growing your business or taking on partners, a limited liability partnership (LLP) or private limited company might be a better fit compared to a sole trader setup.

So, with this in mind, we'll explore these points in more detail and discover the advantages and disadvantages of setting up a private limited company.

Before we dive in, let's clear up one issue that might be causing confusion...

Is There A Difference Between A Limited Company And A Private Limited Company?

In the UK, there actually isn't a difference between limited companies and private limited companies. They are essentially the same legal structure.

The term "limited company" is the general term, but "private limited company" is more commonly used and often abbreviated as "Ltd." This clarifies that it's a limited company that isn't a public limited company (PLC).

PLCs are different - they can sell shares to the general public and have a more complex regulatory framework. So, if you hear "limited company" in the UK, it's almost always referring to a private limited company (Ltd).

Also, limited companies may be referred to as incorporated businesses, which essentially means the same.

And now, we can dive right into our main topic; private limited company advantages and disadvantages!

Let's start with the positives first to see what benefits there are...

Check out: Buying Electric Car Through Limited Company

Private Limited Company: Advantages

Now, bear with us, as there's a lot of information to cover, but it's well worth taking the time to absorb it, as this is important. We'll come to the negatives shortly, but here are the plus points of becoming a private limited company:

Limited Liability Protection - Shielding Your Personal Assets 

Imagine a limited company as a fortress protecting your personal wealth. The company acts as a separate legal entity, completely separate from you, the owner (shareholder), and any directors. This means your personal possessions, like your home, car, or savings, are generally shielded from the company's debts and legal liabilities. 

Minimising Personal Liability: An Example 

Say your private limited company runs into financial trouble and is unable to pay back a supplier. In this scenario, the supplier could sue the company to recover their funds. However, because of limited liability, they wouldn't be able to come after your personal assets to settle the debt. They could only claim against the company's own assets, such as its equipment, inventory, or cash in the bank. 

Exceptions To The Rule 

It's important to note that limited liability isn't absolute. There are some situations where your personal assets might be at risk, and these are listed below in the 'disadvantages' section.

Peace Of Mind For Taking Risks 

Limited liability protection grants you the freedom to make bolder business decisions with a safety net in place. You can explore new ventures, invest in growth opportunities, or take calculated risks without putting your personal finances at risk. This security fosters an environment that encourages innovation and entrepreneurial spirit. 

As a private limited company, you gain valuable peace of mind, knowing that your personal assets are protected even if the business encounters challenges. 

Improved Company Perception

Operating as a limited company sends a clear message to the world: you're a serious and established business. The "Ltd." designation attached to your company name instantly conveys a sense of legitimacy and professionalism compared to a sole trader setup. This can be a significant advantage in several key areas: 

Attracting Clients 

Many clients, particularly larger organisations, prefer to work with limited companies. The limited liability structure suggests a more stable and reliable partner, giving them greater confidence in your ability to deliver. 

Securing Funding 

When seeking investment and lending opportunities, a private limited company is generally viewed more positively. Banks and investors perceive limited companies as less risky due to the separation of personal and business assets. This can translate into better loan terms and attract more interest from potential investors. 

Building Trust With Partners 

Limited companies can foster stronger relationships with potential business partners. The established structure demonstrates a commitment to growth and longevity, making you a more attractive collaborator for joint ventures or strategic partnerships. 

Building A Reputable Brand 

A limited company allows you to build a stronger brand identity. You can register a unique business name, which becomes legally protected under the company name. This brings brand recognition and helps you establish a distinct reputation in your market. 

Investing In Your Future 

Choosing this structure demonstrates a long-term vision for your business. It suggests you're committed to growth and expansion, which can be particularly appealing to potential investors and partners seeking collaborations with ambitious companies. 

In essence, a private limited company business structure acts as a powerful tool for enhancing your business's credibility and status. It positions you as a professional and established player in your industry, making it easier to attract clients, secure funding, and build strong partnerships. 

Corporation Tax Vs Income Tax 

Limited companies pay Corporation Tax on their profits. Currently (as of March 2024), Corporation Tax rates are as follows: 

• Up to £50,000 of profit: 19% 
• Profits between £50,000 and £250,000: 26.5% 
• Profits exceeding £250,000: 25% 

This can be a significant advantage compared to income tax rates for sole traders. Depending on your profit level, you could potentially pay a lower rate of tax on your business income through a limited company. 

Salary And Dividends 

Another key benefit is the flexibility in how you extract money from your limited company. You can choose a combination of: 

• Salary - As a director of your private limited company, you can pay yourself a salary. This salary is subject to income tax and National Insurance contributions (NICs) in the same way as an employee's salary. 
• Dividends - Profits remaining after Corporation Tax is paid can be distributed to shareholders (including yourself) as dividends. Dividends are generally not subject to National Insurance contributions, potentially reducing your personal tax liabilities.

By strategically combining salary and dividends, you can potentially minimise your overall tax bill. It's advisable to consult with an accountant to determine the most tax-efficient approach for your specific circumstances. 

Expenses And Allowances 

Private limited companies can also claim various business expenses against their profits, which can further reduce their Corporation Tax liability. These can include legitimate costs associated with running the business, such as office rent, equipment, and travel expenses. 

Tax-Free Personal Allowance 

This personal allowance is a threshold set by the UK government. It represents the amount of income you can earn each year before you start paying income tax. As of the 2023/24 tax year, the standard personal allowance is £12,570. 

By taking advantage of both salary and dividends, you can potentially structure your income to fall within your tax-free personal allowance. 

For example, let's say the personal allowance is £12,570. If you only pay yourself a salary of £12,570, you wouldn't pay any income tax on it. However, if your business generates more profit, you could then distribute the remaining profit as dividends, potentially up to the current £2,000 dividend tax-free allowance without incurring any further income tax on that amount either. 

It's important to note that tax regulations can be complex, and changes can occur. Consulting with a qualified accountant (like Prescient Accounting!) is highly recommended to ensure you're taking full advantage of the tax benefits available to limited companies while remaining compliant with HMRC regulations.  

Business Continuity And Transferability Of Ownership 

A significant advantage of a limited company is that the business isn't solely reliant on one person. As the company itself has a separate legal identity, distinct from its founders or directors, the business can continue to operate and thrive even if the original founders decide to move on. 

Succession Planning 

This feature is particularly beneficial for succession planning. Ownership of the company is represented by shares. These shares can be easily transferred to new owners, allowing for a smooth handover to the next generation or designated successors. This ensures the business can maintain its legacy and established brand identity. 

Partnering For Growth 

Private limited companies also offer flexibility when it comes to bringing in new partners. Shares can be sold to new investors or potential co-owners, allowing you to bring in fresh expertise, resources, and capital to fuel growth. This can be a strategic way to expand your business ventures and achieve your long-term goals. 

A Company Built To Last! 

By choosing to start a limited company, you're essentially building a business with a life of its own, independent of individuals. This encourages stability and longevity, making it a more attractive proposition for potential investors and partners who see the potential for continued success beyond the involvement of the founders. 

In essence, you create a business entity that can endure and evolve, even as ownership changes hands. This flexibility ensures the business you build can have a lasting legacy. 

Protecting Your Identity 

We covered this briefly earlier, but the benefits are worth expanding on.  

When you register a limited company, you gain the valuable right to protect your chosen business name. This name becomes legally linked to your company, preventing others from trading under the same or a confusingly similar name. This protection is crucial for safeguarding your brand identity. 

Combating Copycats And Confusion 

Imagine you've invested significant time and effort into building brand recognition for your business. A limited company setup helps prevent others from capitalising on your hard work by setting up a business with a similar name. This protects your customers from confusion and ensures they're always interacting with the genuine brand they trust. 

Enforcement And Legal Action 

If someone attempts to infringe upon your registered business name, owning a limited company empowers you to take legal action. You can seek an injunction to prevent them from using your name and potentially claim compensation for any damages caused by the infringement. 

Building A Strong Brand Reputation 

A protected business name allows you to build a strong brand reputation with confidence. You can invest in marketing and advertising initiatives knowing that your brand identity is legally secured. This increases brand loyalty and encourages customers to choose your business over potential imitators. 

Protecting Your Future 

By registering a limited company, you're not just protecting your name in the present, but also for the future. As your business grows and expands, your brand name becomes even more valuable. A limited company ensures this asset remains protected, safeguarding your investment and future growth potential. 

Potential For Employee Benefits 

In today's competitive job market, offering a comprehensive benefits package can be a game-changer for a limited company. Employee benefits go beyond just salary and can significantly impact your ability to attract and retain top talent. Here's how a private limited company empowers you to do just that: 

• Pensions - A limited company can offer a company pension scheme. This benefit is highly sought after by many employees, providing them with financial security in their retirement years. 
• Share Options - Private limited companies can offer share options to employees. This allows them to own a stake in the company's success, potentially leading to financial rewards if the company performs well. This creates a sense of ownership and engagement among employees, motivating them to contribute to the company's growth. 
• Other Attractive Benefits - Limited companies can offer a range of other attractive benefits, including private health insurance, flexible working arrangements, childcare vouchers, and cycle-to-work schemes. These perks can significantly enhance employee well-being and work-life balance, making your company a more desirable place to work. 

Competitive Advantage 

By offering a compelling benefits package, your limited company can gain a competitive edge in the talent pool. Top performers often seek employers who invest in their well-being and future. A comprehensive benefits package demonstrates your commitment to your employees, encouraging loyalty and reducing staff turnover. 

Boosting Morale And Productivity 

Offering attractive benefits can significantly improve employee morale and productivity. When employees feel valued and supported by their company, they're more likely to be engaged, motivated, and dedicated to their work. This translates into a more productive and successful business overall. 

Building A Strong Employer Brand 

A private limited company with a reputation for offering excellent benefits can build a strong employer brand. This attracts talented individuals who are looking for a rewarding work environment beyond just a basic salary. This positive brand image can make it easier to recruit top talent and establish yourself as a desirable employer in your industry. 

Private Limited Company: Disadvantages

Now we've examined some of the more positive points of private limited company ownership, it's only fair to appraise you of the potential downsides in our quest to discover private limited company advantages and disadvantages...

Increased Administrative Responsibilities

Unlike sole traders who have minimal filing requirements, private limited companies face a more complex administrative landscape. Here's a breakdown of some key areas that contribute to this burden: 

Detailed Company Records 

Limited companies must maintain comprehensive records of all business activities. These include financial transactions, minutes of director and shareholder meetings, details of issued shares, and a register of company officers. Keeping these records up-to-date and organised is crucial for compliance purposes. 

Annual Accounts And Financial Reporting

Every year, limited companies are required to prepare and submit annual (or statutory) accounts to HMRC and Companies House. These accounts should accurately reflect the company's financial performance, including a balance sheet and a profit and loss statement. Depending on the company's size and complexity, this process can be time-consuming and require professional accounting expertise. 

Confirmation Statement 

Private limited companies must also file an annual confirmation statement with Companies House. This statement verifies the company's registered office address and details of directors and shareholders and confirms that the company is still operating. 

Corporate Governance 

Limited companies are subject to stricter corporate governance and company law regulations compared to sole traders. These regulations outline best practices for managing the company, including holding regular board meetings for persons of significant control, maintaining clear lines of authority, and managing conflicts of interest.

While these regulations promote transparency and accountability, they also add to the administrative burden. It may be necessary to employ a Company Secretary to handle some of these responsibilities, adding to the cost of running your business.

Impact On Smaller Businesses 

The increased administrative duties can be particularly challenging for smaller businesses with limited resources. The time and effort required to maintain records, prepare accounts, and comply with regulations can significantly drain their limited manpower. 

Outsourcing And Support 

Many limited companies choose to outsource some of the administrative tasks, such as accounting and bookkeeping, to professional service providers like Prescient Accounting. This can help alleviate the burden on internal staff and ensure compliance with regulations. However, outsourcing adds to the overall operational costs. 

Technological Solutions 

Fortunately, various accounting software and online tools are available that can streamline some administrative tasks for private limited companies. These tools can help with record-keeping, bookkeeping, and even automating some of the filing processes. 

Prescient Accounting highly recommends the Xero platform for your accounting software needs. We also offer training courses to help you get the most out of the system! 

Potential Loss Of Privacy

One of the key drawbacks of operating as a limited company is the transparency requirements. Certain information about your business becomes readily accessible to the public through the Companies House register, including: 

• Director Details - The names, addresses, and nationality of directors are publicly available on the register. This can be a concern for individuals who prefer to maintain some privacy in their business dealings. 
• Financial Statements - Private limited companies must file annual accounts with Companies House, which become part of the public record. These accounts typically include a balance sheet, profit and loss statement, and notes to the accounts. While some sensitive information might be redacted, a competitor or anyone with an interest can gain valuable insights into your company's financial performance, business records, and strategy. 
• Shareholder Information - In some cases, depending on the company structure, details of shareholders might also be included on the register. This can be a concern if you want to keep the ownership structure of your business private. 

Challenges For Businesses Seeking Privacy 

For businesses seeking complete secrecy about their operations or finances, a limited company structure might not be ideal. The public availability of information can have several drawbacks: 

• Competitive Disadvantage - Competitors can easily access your financial statements, potentially gleaning valuable insights into your profitability, pricing strategies, and market position. This can give them an edge in developing their own business strategies. 
• Unwanted Attention - The public register can attract unwanted attention from potential investors, creditors, or even unsolicited sales pitches. 
• Security Concerns - Having personal details like director addresses publicly available can be a security concern for some individuals. 

Competition For Funding

While a limited company formation is generally more attractive to lenders and investors, there's a lot of competition out there. This may be a challenge when trying to raise capital, particularly for new businesses without a proven track record.

Venture capitalists and angel investors might have access to numerous investment opportunities, making it more challenging for a new limited company to stand out and secure funding.

Tax Implications

Unlike sole traders who can directly withdraw profits from their business, private limited companies operate under a more formal structure for extracting income. This is because the company itself is a separate legal entity from its owners (shareholders) and directors. Here's a breakdown of the key methods for extracting profits: 

• Salary - As a director of your limited company, you can pay yourself a salary. This salary is subject to income tax and National Insurance contributions (NICs) in the same way as an employee's salary. The level of salary you choose will impact your overall tax bill, so careful planning is essential. 
• Dividends - Profits remaining after paying Corporation Tax is paid by the company can be distributed to shareholders (including yourself) as dividends. Dividends are generally not subject to National Insurance contributions, potentially offering a tax advantage compared to a salary. However, dividends are typically taxed less favourably than income from salaries. 

Double Taxation 

When dividends are paid out to shareholders (owners), they may also be subject to personal income tax, potentially leading to a form of double taxation. However, careful tax planning can help mitigate this disadvantage. 

Finding The Optimal Balance 

The challenge lies in finding the most tax-efficient combination of salary and dividends. The optimal approach depends on your individual circumstances, including your desired income level and overall tax bracket.  

Here's why it can be complex: 

• Tax Brackets - The income tax you pay is determined by your tax bracket. Taking a higher salary might push you into a higher tax bracket, potentially negating the benefits of lower National Insurance contributions. 
• Dividend Tax Rates - Dividends are taxed differently from income from salaries. There are currently different tax rates for dividend income depending on your total taxable income. 
• Corporation Tax Considerations - The amount of Corporation Tax a limited company pays is also a factor. Distributing too much profit as dividends can leave the company with insufficient funds to reinvest in growth or meet operational needs. 

Seeking Professional Advice

Navigating the complexities of salary and dividend structures can be challenging. Consulting with one of our qualified accountants is highly recommended. They can help you understand the tax implications of each approach and develop a personalised strategy for extracting profits that optimises your overall personal tax bill. An accountant can also advise on: 

• Balancing Personal Income Needs with Company Growth - Finding the right balance between taking income for personal needs and retaining business profits for reinvestment in the company's growth is crucial. 
• Maximising Tax Benefits - Private limited companies can claim various business expenses against their profits, which reduces their Corporation Tax liability. An accountant can ensure you're taking advantage of all available allowances and deductions to further optimise your tax efficiency. 

Limited Access To The Stock Exchange

Publicly traded companies have fewer restrictions and regulations when it comes to the number of shareholders in the business.

Unfortunately, this does not apply to private limited companies. While there is no minimum number of shareholders (you can be the sole shareholder), the maximum is fifty. Your company will have restricted access to stock exchange markets because of this, as PLCs have a broader shareholder base with bigger trading and investment opportunities.

A private limited company cannot be directly listed on the UK stock exchange, which makes raising capital through the sale of shares virtually impossible.

Company Director Liability

One of the key benefits of a limited company is limited liability, as discussed earlier. This means that, in most cases, the assets (like your house or car) of directors and shareholders are protected from the company's debts. However, it's crucial to understand that this protection is not absolute. Directors can still be held personally liable in certain situations, such as:

• Wrongful Trading - This occurs when a director continues to trade the company while knowing it is insolvent (unable to pay its debts) or likely to become insolvent. If a company continues to trade in this situation, it can worsen the financial position of creditors. Directors found guilty of wrongful trading may be held liable for the company's debts and potentially face disqualification from acting as a director in the future. 
• Tax Obligations - Directors are responsible for ensuring the company complies with all tax regulations. This includes filing tax returns on time and paying any taxes owed. If a director fails to meet these obligations, they can be held personally liable for the penalties and potential interest charges incurred by the company. 
• Breach of ‘Fiduciary Duty’ - Directors owe a fiduciary duty to the company, meaning they must act in the best interests of the company and its shareholders. This includes avoiding conflicts of interest and making decisions based on sound business judgment. If a director breaches their fiduciary duty and cause harm to the company, they may be held personally liable for the resulting losses. 
• Negligence - Directors can also be held personally liable for negligence if their actions or omissions cause harm to the company or a third party. This could include failing to properly manage health and safety risks, making fraudulent misrepresentations, or failing to exercise reasonable care in their decision-making. 

For all these reasons, it's imperative that company directors understand the legal requirements connected with their role.

Higher Formation And Ongoing Costs

Setting up a limited company typically involves incorporation fees payable to Companies House (although the fees for Companies House registration are generally affordable – typically around £12). Additionally, ongoing costs like annual returns and potential audits can add to the financial burden compared to a simpler sole trader structure. 

It's important to note that all of these fees to Companies House are set to rise significantly in the very near future.

Not Always The Best Option For Small Business Owners?

As we’ve learned, limited companies offer multiple advantages, including limited liability and a more professional image. However, these benefits come with increased complexity and costs compared to a sole trader setup. Here's why this can be a hurdle for smaller businesses: 

• Administrative Burden - Limited companies face more stringent administrative requirements. This includes filing annual accounts, maintaining detailed financial records, and potentially complying with audit requirements for larger companies.
• Higher Ongoing Costs - Beyond the initial incorporation fee, limited companies incur ongoing costs such as annual confirmation statements, potential audit fees, and potentially professional accounting services to manage the company's finances. These costs can be a significant burden for smaller businesses with limited financial resources. 
• Limited Tax Advantages - While limited companies offer some potential tax benefits through salary and dividend structures, these advantages might be less significant for very small businesses with lower profits.

Suitability For Sole Traders 

For very small businesses with limited resources and turnover, a sole trader setup can be a more suitable option. Here's why: 

• Simpler Administration - Sole traders have minimal administrative burdens. They typically only need to file annual Self-Assessment tax returns with HMRC, which can be relatively straightforward, especially with the help of accounting software. 
• Reduced Costs - Sole traders generally have lower ongoing costs compared to limited companies. They avoid the incorporation fees, annual confirmation statement fees, and potential audit costs associated with limited companies. 
• Tax Considerations - While sole traders pay income tax on all their business profits, the simplicity of the tax system can be advantageous for smaller businesses. Additionally, they can the personal allowance, potentially reducing their overall tax liability.  

What's The Verdict?

Now you're up to speed with the private limited company advantages and disadvantages, so is it the right choice for you?

Ultimately, the decision of whether to operate as a limited company depends on your specific circumstances and business goals. Weighing all the advantages and disadvantages listed above carefully and seeking professional advice can help you determine the most suitable structure for your UK business.

If you're still uncertain as to the way forward, the team at Prescient Accounting is always ready to lend a friendly ear and offer invaluable advice! We will discuss all of your options and find the best structure to suit your aims and circumstances.

We are also here to support you with an amazing range of accounting and business finance services to provide the best possible outcome for you and your business.