When is it right to become a limited company?

[AlicanteLullaby]

I established my private psychology practice last year. All things considered, it's going pretty well, better than I expected. I will turnover about £55000 this year, have about £10000 of expenses and pay myself £1600 pcm. So, quite a big surplus that I will keep in the business account, in case of needing to buy equipment, needing time off work etc. When I am working full time in a couple of years, I hope to turn over £100000, but will have more expenses (admin support?).

Is it now worth establishing a limited company or am I just as well off as a sole trader?

Thanks :)

what does your accountant say?

currently you are paying tax and class 4 NI on your profits
If you went Ltd and did salary and dividends, you would get rid of the NI
and once you get near the VAT limit, it all changes again.

definitely worth going Ltd as profits approach the 40% band, if not before.

I talked about it with my accountant last year and he said that, once extra expenses of being a limited company were taken into consideration, there wasn't much in it. However, I am making a little more than I thought this year and also am keeping money in the business account (which I understand is only taxable when it's taken as salary/dividends).

I am unlikely to be affected by VAT, because of the service I provide (Healthcare is not Vat-able, I think).

If you're only taking out £1600 per month, I'd be surprised if the cost of preparing Ltd company accounts is worth the savings you'd make. There is a website somewhere which estimates what you'd save and you can compare it to how much extra your accountant would charge.

but sole traders do not "take out" money - as they are taxed and class 4 NI on the total profits of the business, no matter how much is left in the business account.

Sole traders do not have either salaries or dividends - all that money has been taxed at 29%

Looking at the VAT rules
customs.hmrc.gov.uk/channelsPortalWebApp/channelsPortalWebApp.portal?_nfpb=true&_pageLabel=pageVAT_ShowContent&id=HMCE_CL_000121&propertyType=document#P40_2645
you are probably OK, but would need specific advice to cover things like councelling and non prescribed work.

Doh!

I typed that whilst listening to DS do his bedtime reading Of course it's all taxed/NI'd as a sole trader! What makes it more embarrassing was that I was going to ask what the point of leaving it in the business was, as its not a separate person to you it is you but I decided you just meant that you left it in a separate bank account.

In essence you have to set off the increased cost of preparing your accounts for a limited company with the saving in national insurance you'll make to see if you are better off - it will primarily depend on how expensive your accountant is in my experience.

I haven't looked at VAT rules.

did not seem like you to make an error like that

was DSs reading good ?

talkinpeace - it was such an embarassing error that I actually laughed out loud when I read your reply!

To be fair you were remarkably restrained in your response!

Unfortunately DS is reading Wimpey Kid which I detest with a passion but its just about the only fiction he'll read himself at the moment and teh teacher is insisting on "good quality fiction". Yeah well, close enough.

You have to remember that I have been using this ID for 8 years and ended up writing my Ebay "me page" as a way of keeping calm when having to reiterate the same basic facts about tax again and again and again
and actually OP was clearly confused about the difference between drawings and profits so its ALWAYS worth reiterating as politely as possible.

Hmm Wimpey kid - not my scene either. Arthur Ransome is much nicer.

I normally have the opposite problem with clients. They have a limited company called Theirname Ltd and clearly think they are one and the same entity and have no separation at all in their own mind.

Sorry OP to hijack.

Thanks for the advice. That's correct, I just leave the money sitting in my business bank account. I think I understand the difference between drawings and profits but the implication I got from my accountant was that an advantage of setting up a limited company is that you can accumulate capital that is not taxable, whereas now I am paying tax/NI on everything I earn (minus my expenses). I was thinking that this may be helpful in the long term if I wish to then spend money on expanding the business. Could someone let me know if I have misunderstood this.

Also, what are the advantages once I am earning over the higher rate tax threshold, is it just that drawings are taxed at 20%, instead of 40%?

Thanks, and sorry for my rather basic questions. It's actually quite hard to find this information explained clearly online! When I trained as a psychologist I assumed I'd spend my life in the public sector and never have to worry about this sort of thing, wish I'd paid more attention to how my dad ran his business now!

Your company (if you have a limited company) will get taxed on its profits at 20% however much taxable profit it makes. You can then (if you choose) leave whatever you need of that money in the company for the company to invest in business assets and no further income tax will be payable by you personally on the money you leave in the company - in fact you should get tax relief on the cost of buying those assets (depending on what they are) against the profits of the business.

You can choose to pay yourself roughly £8,000 as salary which is below the NI and tax threshold so you receive 100% of the money with nothing (or a minimal amount) deducted. You then pay yourself the balance that you wish to take as a dividend in your capacity of shareholder rather than employee which is NOT employment income and therefore does not have NI on it saving you around 10% (I'm rounding) on that amount (at the moment you pay yourself very little above the minimum so this won;t be large but will increase as you expand your practice presumably). If you get to the point where you are "earning" £50,000 you can in essence save all NI on it perfectly legally.

As an individual you will always pay income tax at the higher rate if you fall into that bracket however your income is earned but in a limited company if you choose not to withdraw it from the business in any way then you only pay at the corporation tax rate of 20% which is an advantage if you are trying to leave money in to buy assets in future and you are a higher rate taxpayer personally.

Obviously this isn't actually advice I'm specifically giving to you because I have no idea of the details of your circumstances and your accountant does but it is a broadbrush explanation of how it usually works if you switch from sole trader to limited company.

If that's a bit confusing I'm sure Talkinpeace will come along and sort me out shortly!

that's pretty much what I'd have typed
with the duplicated caveat
that even face to face clients always leave out crucial bits on information without prompting
and on the internet its not appropriate to ask such questions.

you do need to get your accountant to be rather more proactive and small business advice oriented though
there are lots of us - if you are not getting VFM from your current one, find a better one
THe UK Business forums (even with their naff new colour scheme) are a really good place to start.

Phew!

Thanks so much, all really helpful advice and that makes sense to me now.

I worry about asking my accountant silly questions (or asking the same question again, when I have not understood something), he's been very supportive and I should really make better use of him.

Off to look at the UK business forums right now....

It's his job! And he'll charge you for it (If you ask too many!) but better that you understand what you're doing.

Hope you don't mind me joining in but I have a similar question: I run a similar business (no VAT therefore) but have always been a sole trader and not a limited company - done all my own accounts and never used an accountant. I don't earn that much more than you do now, after expenses.

However, I too am wondering if I should or could set up a limited company, as I already pay the higher rate of tax and money is tighter and tighter.

However, in my situation, I would need to draw out living expenses for me and 2 DCs (no other family income) and also on top of that, around £30,000 a year for their school fees - for another 6 or so yrs.

Given that's a huge amount I'd need to draw in dividends, am I right in thinking it wouldn't be feasible to set up a limited company?

I'm not sure why you think thats a particularly huge amount to withdraw in dividends or what you think the downside of that is but presumably you are paying NI on it at the moment and you won't be if you withdraw it as a dividend.

Whether thats worthwhile will come down to your personal tax situtation and how much an accountant would charge you to administer the finances of a limited company. I'd suggest you ask around and talk to a local accountant.

Oxymoron
assuming you pay yourself a salary of £7500 and then draw dividends to come up to the £30k, that's well within the average.
I pay myself more than that and I do not have school fees to cover!

ltd co is best at around 100k income. Benefits lessen as you approach 150k

I highly recommend the micro business team who have some great illustrations and are brilliant at handling the change over

ltd co is best at around 100k income. Benefits lessen as you approach 150k
que?

Que indeed!

VAT is not an issue as long as you are properly registered as a physcologist here

There's a load of analysis which compares ST with ltd co, taking into account NI, corp tax, income tax etc. the biggest difference in the total tax due between operating as ST and ltd co is at an income of around 100k.

According to this I'm wrong and the benefit is about 4.5k at 100 k and 5.5k at 150k

www.companiesmadesimple.com/self-employed-or-limited-company.html?annualProfit=150000

Forgot link!