For those who are freelance by nature, the question often arises as to whether it is better to incorporate themselves as a sole trader or as a company. This is an important area to address, for not only may it affect the way that the company is viewed from a marketing perspective, but there are some very real tax implications and financial responsibilities that need to be weighed. So, it is important to briefly examine the latter half of this equation; that is, what are the accountancy, financial and tax aspects of each? This decision is obviously important to make before one begins any operations.
Aspects of a Limited Company
One of the primary reason that many freelancers will choose to incorporate as a limited company is the simple fact that this type of business will tend to attract more clients. Also, (and a considerably important feature), one’s personal assets are necessarily protected from the debts of the company. For example, it a client suddenly decides to pass on the risk of a project to the freelancer, his or her personal property (home, car, etc.) will not be at risk. This can be an important benefit for those working in high-risk fields such as IT security or banking.
Another important consideration are the tax liabilities that a limited company will be responsible for. Assuming that one’s profits are less than £300,000, a flat corporation tax of 20% will be paid each year. Also, one can pay oneself through both a low wage framework (helping to lessen NIC costs) and company dividends. In other words, less cash will be allocated to HMRC and more will be able to be taken as profit.
However, there are also some downsides to this option. First and foremost, an accountant will most likely have to be employed, for paperwork will need to be filed every month. This may equate t a considerable expenditure. As IR35 accounts will also have to be provided each year, the internal paperwork may prove challenging. Also, let us not forget that with a PLC, profits have to be distributed amongst all shareholders (in comparison to a sole trader). This can prove costly if there are a considerable amount of stakeholders involved with the operation.
Sole Trading Considerations
The most important benefit of choosing to become a sole trader is the simple fact that there will be no IR35 concerns. While both sole traders and limited companies are required to fill out what is known as a “self-assessment” (assents, company information, etc.), other information such as company assets, corporate tax return and VAT data will not need to be submitted. Notwithstanding the self-assessment tax return, sole traders will have much less paperwork to file and therefore, the need for an accountant will drop substantially.
However, it should be mentioned that as a sole trader, the owner will have no protection of his or her personal assets in high-risk businesses. This can prove dangerous should a company suddenly fold. Also (and as mentioned previously), there may be difficulty attracting a robust client base, as many businesses will prefer to only become involved with a limited company. Thus, raising capital may prove to be difficult. Finally, all day-to-day decisions are based upon the proprietor; all the risk, therefore, will be in the hands of the sole trader. Insurance premiums may also be higher, as sole trading companies are naturally considered to be at a higher risk than limited corporations.
So, the ultimate answer to which scheme is better will revolve around the needs of the individual and the organisation. Some of the factors that need to be considered will be:
- What is the revenue forecast for the company?
- Will IR35 and other tax liabilities prove detrimental to profit?
- In the company considered to be operating in a high-risk sector?
- How difficult will it be to attract outside investment?
Depending on the answers to these questions, either choice may be the most efficacious. Still, these concerns and the aforementioned features of each scheme need to be carefully considered, for their impacts can have a profound effect on the success or failure of a business.