Guide. to starting a limited company

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1 Guide to starting a limited company

2 Starting a Limited Company A Practical Guide to What You Should Know If you are thinking of setting up a limited company for contracting or you already have one, you should be aware of your legal responsibilities and have an understanding of the different taxes you ll encounter. The taxes element can seem a bit complex at first but here at Redwood Account ancy we will ensure you fully Understand what each tax is, how it works, what needs to be paid and when. YOUR POSITION AS AN INDIVIDUAL When you incorporate a company you are effectively creating a new legal entity independent from its owners which can hold assets and create legally binding contracts in its own name. You should be aware that information such as the registered office, name(s) of directors and shareholders are made public and held by Companies House, therefore anyone searching for your company will have access to this information. You will normally be the director and shareholder as well as an employee of your own limited company so it s important to understand there is a distinction between your funds and those of the company so you don t mix the two. There are four ways you can extract cash from your limited company: 1. Wages 2. Dividends 3. Expenses 4. Loan Always ensure that payments from your company to your personal account fall into one of the above mentioned categories and that the transaction reference clearly states what it is for. If HMRC ever looked at

3 WAGES Once we register your company for PAYE we can set up a monthly payroll which will allow you to take a monthly salary from your company that we will agree in advance with you. Your salary will be set at the personal allowances limit ( 10, /15) while the rest of your income will come from dividends, which makes it more tax efficient. It should also be noted that you will have to pay a small amount of National Insurance contributions but this ensures you keep your state benefits, such as the state pension and statutory sick pay. DIVIDENDS Dividends are payments made to the shareholder(s) that come from post-tax profits (Corporation Tax has already been deducted). As a shareholder, you will be entitled to receive dividends from your limited company. Dividends are classed as income and must be declared on your tax return each year. The tax advantages of dividends are that are not subject to National Insurance contributions and are also not taxable unless your total income (which includes Salary, bank interest, rental income etc.) goes over the higher rate band ( 41, /15). It should be noted that the physical dividend you have been paid is not the same as what is included in your total income, this is because the dividend comes with a 10% tax credit, therefore it must be grossed up, for example;if you received 20,000 then you need to divide it by 10/9 so 20,000 becomes 22,222 and this amount will be added to your other earned income. If you dividend takes your total income into the higher rate tax band then the additional amount of 22.5% (32.5% - 10% tax credit). It is the directors responsibility to prepare a dividend voucher each time a dividend is declared and paid so you should keep these records in a sage place even though HMRC will not normally ask to see them it is still a legal requirement.

4 To underst and how salary and dividends are t axed see t he following example Taking the higher rate band of 41,865 and your annual salary of 10,000 this leaves you 31,865 of your basic rate band remaining. This means you can take up to 31,865 x 9/10 = 28,678 in dividends without paying any additional tax. However, if you took an additional 900 in dividends (so that is grossed up to 1,000) you would have to pay addition tax of 225 (22.5% x 1,000). You should also be aware that as you are not paying the additional tax at source (unlike PAYE) and the total amount of additional tax is over 1,000 then you will be subject to HMRC s payments on account rules. This means you must also pay 50% of the tax due on account of your next tax assessment on the 31st January and then another 50% on the 31st July in the following year. See our Payment on Account guide for further information. EXPENSES Expenses are amounts that you can reclaim from your employer for costs you have incurred. If these are personal expenses, for example internet and mobile costs for personal use, then you will have to declare them and pay tax on them. If they are wholly business expenses, such as traveling to meet a client they will be tax deductible for the company, hence reduce the amount of Corporation Tax payable. Where possible it is best to use HMRC set rates, for example claiming business mileage at 0.45p a mile means you don t pay any income tax and don t need to declare it on your tax return but if you claimed 0.50pm you would pay tax on the 0.05p difference and also have to declare it. LOANS HMRC try to discourage directors taking company loans, they do this by setting a limits on the amount of loan you can take before it becomes a taxable benefit (benefit in kind). The current limit is 10,000 but the

5 moment you go over this the entire loan is taxable. You would not be subject to tax if you paid interest on the loan at a rate of 4% or more. In addition to potential tax on the loan, if the loan is not fully repaid within 9 months of the financial year-end the company will pay extra Corporation Tax of 25% on the loan value. It will not be possible to simply repay the loan and take out another one the next day as this would be considered an obvious avoidance tactic that HMRC don t allow. A loan should only be a short term measure as it will have to be repaid to the company, even if you write it off there will be further tax implications in doing so.

6 Let s Now Look At The Company As stated above, you have created a separate legal entity so it is liable for its own taxation. CORPORATION TAX Corporation Tax is payable on the company profits, which is basically the net of income less allowable costs. A s imple example: Sales 60,000 Salary ( 10,000) Mileage ( 2,500) Insurance ( 500) Profit 47,000 Corporation 20% 9,400 Retained Profit 37,600 Corporation tax is due for payment 9 months and one day after the end of each accounting period, therefore if your company year-end is 31st March 2014 then the Corporation Tax will be due to HMRC by 1st December You are allowed to take dividends as often as you wish. It is not limited to one or twice a year, however, you need to take into account both the personal and business tax positions. The company can only pay dividends out of retained profits and this must be calculated rather than just looking at the cash position of the company. As a general rule, we would recommend you put aside 20% of your net invoice amount into a savings account to cover Corporation Tax, VAT and PAYE taxes. For instances if you invoiced 5,000 including VAT,

7 you should put aside the VAT element (assume 14.5% payable to HMRC) which is 725 plus a further 20% of 4,275, 855 to cover Corporation Tax and PAYE. The final figures may vary due to the level of expenses you put through the company. VAT (VALUE ADDED TAX) VAT is tax that is charged on most goods and services that are required to register for VAT. The current VAT registration threshold is 81,000 but you can voluntarily register at any point even if your sales are below this figure. If you are VAT registered you must include your VAT number on every invoice and add 20% VAT to your service charges. HMRC have now set up a simplified VAT scheme called the Flat Rate Scheme. You can still register voluntarily and stay in the scheme until your income reaches 230,000. The benefit of this scheme to many contractors is that although you still charge 20% on your invoices, you pay over to HMRC a lower percentage so the company gets to keep the difference. For IT contractors, this is 13.5% in your first year and then 14.5% thereafter. Exa mple Sales Invoice 10,000 20% VAT 2,000 Gross Invoice 12, % Flat Rate ( 1,740) Company Keeps 260 The reason you get to keep this is because you are not allowed to reclaim VAT on your purchases, the only exception is a one-off capital purchase which costs at least 2,000 including VAT, (this could be an expensive Laptop or some IT equipment and software as long as it was all on one order and the total came to more than 2,000.)

8 PAYE (PAY AS YOUR EARN) Most people will pay their taxes and National Insurance via PAYE, all employers must operate a PAYE scheme and deduct tax and National Insurance at source from the employee. This must be paid on a timely basis over to HMRC (usually monthly). HMRC have recently introduced RTI (Real Time Information) which is a new monthly reporting requirement. This will all be taken care of by Redwood Accountancy as we will send you a monthly payslip along with details of how much and when to pay as well as the reference numbers to us on your payment to HMRC. We will also send you a SMS reminder near the payment deadline so you don t get any fines for making late payments. If you receive any taxable expense this must also be reported on a P11D, you will also need a copy of this for your tax return. At present, the government has introduced an Employers National Insurance allowance of up to 2,000 which means on an annual salary of 10,000 there would be no employers NIC s payable. As this is a government initiative there is no guarantee it will continue. IR35 IR35 can significantly change the tax advantages of using a limited company, this is because if deemed inside IR35 you have to take 95% of your contract income as salary less several key expenses. If you are unsure if IR35 is relevant to you or would like to discuss it in more details, please just give us a call.

9 CLOSING DOWN YOUR COMPANY When you decide to come out of contracting and no longer require your limited company there is a required process of winding up the company and applying to have it dissolved by Companies House. You also need to ensure you take out any remaining profits in a tax efficient way which means making use of the Capital Gains Tax allowances. At Redwood Accountancy we will assist and guide you through the entire process, from start to finish, guaranteeing you don t leave any loose ends. We can set-up your limited company, file all your company and personal tax return, act as your authorised agent with HMRC and provide unlimited support from only per month (including VAT). For more details of our service and pricing visit or call us on We are experts in contracting accounting who will safely guide you through the whole process and take care of all your tax and accounting needs, allowing you to get on with your busy workload. Redwood Accountancy Ltd Witney Business Centre Windrush Industrial Park Burford Road Witney Oxfordshire OX29 7DX

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