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The purpose of this guide is to help tradespeople understand the positives and negatives and then make a decision. We’re not pushy: just pointing out the reality.
If you are a tradesperson, the question will inevitably arise as to whether you should upgrade to a limited company. It seems like a great idea in theory, but some people might have warned you of it, and others may have told you that it’s a downright bad idea.
So, what are you supposed to do?
Well, as with many things in life, the optimal strategy involves shades of grey. Yes, there are benefits to limited firms, but there are also downsides.
Advantages Of Becoming A Limited Liability Company
So, what are the advantages of becoming a limited liability company? What are the upsides?
Liability Protection
The primary benefit of switching to this business structure is liability protection. It separates your company from your personal finances, allowing you to take more risks than you usually would.
The original purpose of limited liability companies was to protect business owners who wanted to take risks from destitution. It meant that they could set up companies without worrying about losing everything. Yes, their firms could still go bankrupt, but they wouldn’t be out on the street with their families.
You simply don’t get this level of liability protection as a sole proprietor. If your business loans are increasing every month, you have to find a way to pay them off, even if the company itself isn’t viable.
Tax Efficiency
Sometimes, you can gain efficiency with limited liability companies. That’s because corporation tax is quite low on profits under £250,000 at 19%. This figure is well below the number for regular salaries.
As such, your profits could be lower if you earn more than, say, £40,000 per year. You won’t have to face the usual income taxes, especially if your total earnings are, say, early six figures.
Professional Image
Then there’s the professional image that you can portray when you own a limited liability company. You’re not just a sole trader using a personal bank account and your home as your premises. Instead, you’re a real company with proper accounting and government recognition. You’re not a “freelancer” or “self-employed,” two terms that can carry a pejorative meaning among the general public.
Don’t underestimate the effect this change in business structure can have on how people perceive you. It makes you appear more credible.
Access To Funding
Related to this last point, owning a limited liability company can also increase your access to funding. Despite the “limited” part of the liability, many banks and investors prefer dealing with this type of company. Therefore, it can be helpful if you want to grow your business, open new locations, or take on additional employees.
Furthermore, you could find it easier to secure investments from venture capitalists or people looking for somewhere to keep their funds. If they know they have a legal structure protecting them, they are often more willing to lend.
Insurance Benefits
Another advantage is the insurance benefits. These can save you money compared to running a vehicle for work privately.
Getting limited company car insurance explained to you can be a real bonus to your finances. Once you understand it (or you work with an accountant who does), it can improve your margins and make every job more profitable, even if you have to drive a long way to get there.
Pension Benefits
Finally, directors of limited companies, like you, can contribute to pension schemes. These come with various tax advantages that are harder to find elsewhere. These can be useful if you want to set your money up for retirement.
Disadvantages Of Becoming A Limited Liability Company
Naturally, there are some disadvantages to becoming a limited liability company. These can be a burden on many companies, especially smaller businesses.
Profit Extraction Limits
One issue is profit extraction limits. When you run a limited liability company, you can’t always take out the money you want when you need it. You have to go through a process.
The law views limited company owners as “stewards.” Essentially, these are people who take care of their businesses instead of really being in control of them.
Ultimately, the cash belongs to the company, so withdrawing a lot of money can lead to legal headaches. It’s especially problematic if anyone else in the firm owns shares or part of the equity. Again, these individuals must be consulted before money can flow out.
Less Privacy
You also have less privacy when you own a limited company. The government publishes details about things like who owns it, the controlling party members, and the profits or losses of the firm. Everyone can see this information, and the government maintains it for many years, meaning even a decade later, people can look up their income for a specific year.
Tax Complexity
Unfortunately, the tax situation of LLCs is also more complex than many tradespeople expect when they set them up. There’s a lot to do. Even abridged accounts are complicated.
Companies earning more than £85,000 must submit full accounts, which involves many pages of paperwork. It’s a long task, so most firms outsource it to accountants. Furthermore, payroll and salaries can create additional tax issues and require even more paperwork for each employee.
This level of documentation comes from the lack of trust between business and government. HMRC wants to monitor everything limited liability companies do to ensure they pay the correct level of tax. The agency issues fines for almost everything, including late payment or late returns, and can even prosecute companies it believes are deliberately side-stepping the law.
Increased Admin Costs
All of this means that limited companies have higher admin costs. Expect to pay between £500 and £1,500 at least for accounting services, and extra for legal services.
These costs aren’t trivial, which is why many small businesses stick to sole proprietorships.
When Should You Upgrade To A Limited Company?
So, reading all of this, when should you upgrade to a limited company?
Most tradespeople make the switch when their profits go above £40,000 a year. For people in this line of work, that’s quite a lot of money, but it is possible if you are doing something special or your services are in high demand.
If your profits are less than, say, £30,000 annually, it might not be worth the upgrade. Overall, you probably won’t be any better off and may end up paying more taxes.
You should absolutely consider switching to a limited company below this threshold, though, if you have growth plans. If you want to expand your business in the future and take on more people, then being a limited company is an excellent choice.
The number of tradespeople who expanded small ventures this way is small, but it has been done. Prioritising service and getting the business structure right can be powerful tools on the journey to success.
VAT considerations may also convince you to switch to an LLC setup. If you are getting closer to the £85,000 threshold, then setting up a private limited company makes a lot more sense. You can start rolling VAT into your prices and streamline your bookkeeping.
Of course, if your business is risky and relies on lots of high-value transactions, a limited liability company is sometimes essential. This structure helps you reduce legal risks to your personal property, ensuring you can’t be taken to the cleaners in a bankruptcy case.
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