Frequently Asked Business Question:
I own a family business and have considered incorporating my business. However, with rising corporation tax rates anticipated, I’m not sure if it is the right thing to do. Can you give some advice on incorporation?
Should I Incorporate my Business?
When considering incorporation, many factors should be reviewed from a tax and legal perspective and commercially. Incorporation not only has to work for your business but it also has to work for you. This can depend on what size your business is and what are your long-term goals and aspirations.
A key difference between a limited company and an unincorporated business is that a company is a separate legal entity. If you own an unincorporated business, there is no separation of identity. One of the big benefits of operating through a limited company is limited liability. This can give protection to business owners compared to operating as sole-trader or a partnership, where you could be held liable for business debts and personal assets could be put at risk. Operating through a limited company can also help with the permanence of your business, make it more attractive to do business with, and open up grant and funding opportunities.
A key driver for incorporation can be lower corporation tax rates applicable to companies (currently 19%) compared to income tax rates for unincorporated businesses varying from 20% to 45% plus Class 4 and Class 2 NIC contributions. In the last budget, it was announced that the UK corporation tax rate is due to increase to 25% with effect from 1 April 2023. However, it is also worth noting that Northern Ireland is intending on setting up a fiscal commission to review the possibility of setting and agreeing on a corporation tax rate for Northern Ireland This could mean that companies located in Northern Ireland could pay corporation tax at a reduced rate at some point in the future.
A company pays corporation tax on its profits and when income is distributed to its shareholders, the extracted income would also be subject to income tax. Essentially this gives rise to double taxation on the same income. Whilst this could be seen as a disadvantage to incorporation, an incorporated business, can give business owners more flexibility on when and how income is extracted from the business. This can allow for more efficient tax planning for business owners during the lifetime of the business, succession planning, or the eventual sale of the business.
There are also some tax allowances and reliefs available to companies that are not available to unincorporated businesses, for example, capital allowances super deduction and research and development tax relief. These tax allowances and reliefs can significantly reduce a company’s corporation tax liability. In addition to this corporate structures can give more flexibility when businesses are expanding and growing and there are various tax reliefs available to assist businesses with this.
When forming a company, it is important to ensure that the legal ownership of the company is considered. This is particularly important if there are other shareholders. A shareholder’s agreement and employment contracts are extremely important and should not be overlooked.
The costs associated with operating a limited company will be higher than operating an unincorporated business. The initial setup cost of forming a limited company may be minimal, however, there would be additional accounting and tax compliance costs, Company House filing fees, and legal fees. Limited companies are also required to file accounts and, therefore, information on the trading performance of your business could become publicly available.
Prior to incorporation, planning is required and is essential as getting it wrong can be very costly as there are no specific reliefs when a company is disincorporated. During the incorporation planning stage, there are a number of factors that need to consider which could have legal, commercial, accounting, and tax implications. One such area that needs to be considered in detail relates to property. If you own business premises, you may need to consider, should the property remain in personal ownership or should it be transferred to the company? Can the property be transferred, for example, is the property being held as security? If transferred to the company, what is the value of the property, are there any capital gains tax and stamp duty implication, and can these be mitigated in any way? If the property is remaining in personal ownership, then you may need to consider, charging rent to the company as a means of extracting income from the company, however, this could impact future capital gains tax and inheritance tax reliefs.
Whilst, a corporate structure could offer more security and be more tax-efficient, incorporating a business should not be undertaken without adequate planning with your Trusted Advisor.
For more information and/or assistance, please contact our Tax Team who will be pleased to help you.