Limited Companies (Incorporated)

Unlike sole traders, partnerships or unincorporated associations, limited companies are legal entities quite separate from their members.

They can sue, hold property and enter into contracts in their own names. The owners will not be liable for debts and liabilities though if the company needs to borrow money, they are often asked to give personal guarantees to the bank. However, directors can be personally liable for debts incurred while the company is, or is near, insolvent. It is also possible for a director to be personally responsible for negligent acts of the company.

There are two types of limited companies - those limited by shares (eg commercial companies) and those limited by guarantee (usually charities or non-profit distributing companies).

Companies limited by shares are owned by shareholders, of which there only needs to be one, and are run by boards of directors.
Companies limited by Guarantee have members and are usually run by a committee of management.
In general, trading is carried out by companies limited by shares since guarantee companies can't usually pay the benefits of their trade to their members.

At least two people are required to set up a company limited by shares. This is because a company must have at least one director and someone different who is company secretary. Neither need be a shareholder. Company secretaries have limited responsibilities compared to directors. Formation and running costs tend to be high, annual returns have to be submitted to Companies House and accounts have to be prepared in a format laid down in law (which is complicated) and filed each year.

Most non-accountants would find it difficult to prepare company accounts so professional help is almost always needed. If sales exceed ?1 million an audit will also be needed. The constitution, annual accounts and other documents filed at Companies House are all open to public inspection.

A company structure is suitable for any size of organisation and a ready-made constitution (Memorandum & Articles) is provided in the Companies Act 1985.

It will be required to adopt a constitution which comprises two documents: the memorandum of association which regulates the company's dealings with the outside world and the articles of association which regulate the company's internal affairs.

Before opting to form a company, consider whether the expense and administrative requirements are justified by the benefits of corporate status and limited liability. You should also take advice from an accountant regarding tax and NI contributions. Companies pay tax at special corporation tax rates on their profits.

Advantages:

• directors are not personally liable for company debts - unless they knowingly trade when insolvent.

• company status can be valuable when dealing with funders, banks and other agencies.

• companies can trade as legal entities - eg sign leases, etc.

Disadvantages:

• companies must operate PAYE system on all salaries and wages

• companies pay employer's national insurance contributions on all salaries and wages

• it can cost up to ?300 to incorporate using an agent

• above a specified sales limit annual professional auditing of accounts is a statutory requirement

• annual accounts and returns must be submitted to Companies House and penalties are payable for late submission

• company details are open to public examination

• directors are subject to company law, insolvency acts, etc

• changes of directors and other matters to be filed at Companies House (including changes to constitution) - there are fines and penalties for late filing

• voluntary dissolution is complex

• most accountants would agree that small businesses run through companies pay more tax than those run by sole traders, partnerships and limited liability partnerships

• most accountants agree that the accounting and tax work they have to do for limited companies cost about twice as much as the equivalent work for a sole trader