Companies are often regarded as the gold standard when it comes to the preferred choice of a legal entity for business start-ups.
They are viewed as being the most tax efficient corporate vehicle and are therefore often deployed without much consideration of the alternatives.
However, limited liability partnerships (LLPs) can in some cases offer significant advantages over traditional limited companies for business start-ups.
Why choose to be an LLP?
In the case of a limited company, profits are taxed at corporation tax rates with shareholders being taxed on dividends only at such time as those dividends are declared.
In contrast, the members of an LLP are taxed on an ‘arising basis’ ie as profits are made. LLPs are ‘tax transparent’ so that it is the underlying members of the LLP who are subject to income tax rather than the LLP itself.
The payment of profit to members is also generally not subject to employers national insurance contributions provided that they are not being made to members who are deemed to be ‘disguised employees’.
So, at the end of the day it is often a case of having to crunch the numbers in order to establish which is likely to be the more tax efficient vehicle.
Disadvantages of LLPs
However, there is evidence to suggest that HMRC may be beginning to clamp down on certain practices that have prevsiouly been deployed by limited companies in order to save tax.
In particular there is evidence of a hardening of attitude towards the payment of flexible dividends ie where dividends are paid otherwise than in proportion to the number of shares actually held.
This is achieved by creating different classes of shares with the company having the ability to pay varying dividend amounts to the holders of shares in those different classes.
There are also some potentially tricky tax issues that can arise under what is known as the “employment related securities legislation.”
Employees and directors who acquire shares sometime after a company has been incorporated, may potentially be liable to pay income tax on the difference between the market value of those shares and the price they actually pay for them.
What you need to consider
These issues can generally be avoided by using an LLP where profit sharing arrangements are somewhat more flexible. So before just incorporating a limited company, do carefully weigh up all relevant factors when considering which business medium to use. In some cases using an LLP may be a much better option.
Jos Moule is a Partner at award-winning regional law firm, VWV. Jos can be contacted on 0117 314 5650 or at firstname.lastname@example.org.