Given the abundant choices for the structure of the business you could opt for, it has become one of the most complicated decisions to be made. The most trending business structures currently are -sole trader, private limited company, and Limited Liability Partnership (LLP). Each business form has its own advantages and disadvantages. Therefore, the decision to choose amongst the various forms can be made based on several factors such as the type of your business, investment requirements, personal circumstances, degree of personal liability, etc.
More often than not we see that feature of “limited liability” is considered to be a crucial factor when deciding the business form. If it’s so then this narrows down our choices to two business forms, which are LLP and a limited company. This blog is written to compare and indicate how LLP and company differ from each other to help you in decision making.
First, the SIMILARITIES;
LLP and Limited companies are SIMILAR in several ways:
- Most importantly, members of both of these have limited liability towards the company’s debts.
- Both setting up a limited company and LLP has to be in corroboration with Companies House.
- There are relatively more filings and other statutory requirements to be complied with in both the forms of organisations as compared to compliance work for sole traders.
What makes LLP and limited company DIFFERENT from each other have been listed below:
Number of members
A limited company can be incorporated, registered, and managed with mere single member being the director and the major shareholder. However, for LLP formation you need to have at least 2 members.
Liability towards business debts
The liability of members in a limited company is restricted to the amount of money unpaid on their shares while in case of an LLP, the liability of each member is limited to the amount each member guarantees to pay at the time when the business runs into debts or is on verge of being wound up.
Investment in Capital
A limited company can raise capital from outsiders, while LLP cannot raise capital for the business to non-LLP members.
A limited company can be incorporated to be operated as a non-profit business. On the other hand, LLP takes its basic features from ‘ordinary partnership’ which means LLP must be set up with the intention of making a profit.
Distribution of profits
The only restriction with respect to the distribution of profits in an LLP is the availability of cash. Subject to the number of liquid assets available, LLP can easily distribute profits, advance loans, and return capital with no or minimum formalities. However, the distribution of profits in a limited company involves abiding by many statutory conditions stated in the company law.
Changing the internal structure
It is easier to change the internal structure of an LLP by simply adding or removing the members. However, this structure is more rigid in the case of limited companies as they have capital maintenance requirements. Also, there if the director of the company is to be removed there is a properly laid down procedure stated n the company law on how it is supposed to be done.
Document regulating the business
The company is run according to the rules of internal management as stated in its Articles of Association. Also, it cannot act beyond the boundaries of its Memorandum of Association. In the case of an LLP, the LLP agreement acts as the main document that defines how the business will be run, controlled, and managed.
In the case of a company, the taxable profits are chargeable to tax at the rate of 19%. Also, the dividend paid to the shareholders from post-tax profits and up to £2,000 of dividend is tax-free in the hands of shareholders and the remaining dividend gets taxed according to the tax bracket of the recipient. When the profits are distributed to the directors, it can be done at an optimum mix of salary and dividend. The salary should be kept to a maximum of their tax-free Personal Allowance, and additional profits may be distributed by way of shareholder dividends. This way a director can legally minimise his/her personal tax liability.
The LLP is a type of partnership and we know partnership is a ‘pass-through’ entity. So in the case of LLP, like any other partnership, all profits of the partnership business are “passed” to the partners and taxed as personal income for the partners instead of being taxable in the hands of the partnership itself. Thus, all the partners are required to register for Self-Assessment tax and pay Income Tax and National Insurance Contributions on their individual share in profits, irrespective of the fact that they take all of the profits as a salary or leave some of it in the business. If the income of the LLP member exceeds the Personal Allowance threshold (£12,500 for 2019-2020 tax year), then he or she will be subject to the following Income Tax rates:
- 20% on taxable income up to £37,500
- 40% on taxable income between £37,501 and £150,000
- 45% on income over £150,000
This makes the tax liability of LLP members can be relatively higher.
As mentioned above, tax is charged for LLP members on their entire share of profits for the respective period irrespective of the amount actually withdrawn from the business (i.e. accrual basis in simple language), whereas, in case of a limited company, the shareholders are only taxed on the amounts actually withdrawn, basically allowing them the flexibility to delay the incidence of tax.
Deciding the right way….
Keeping in mind the numerous factors influencing the choice of business forms, there cannot be any cut and dried answer as to which form is better over the other. It completely depends on case to case and the individual’s preference for risk-taking. In this blog, we’ve identified the factors that make LLP and Limited companies different from each other. All you need to do is to consider the factors that matter to you the most and select the most viable option accordingly.
To help you further, we also have also made a comparative analysis of sole trader and company form of business in our blog “Sole trader versus limited company: An Approach-Approach Conflict”.