Keith Senior, of Jacobs Allen, looks at whether it's worthwhile for a small business to operate through a limited company

As the dust settles on this week’s Autumn Statement (aka Budget!), we can turn our thoughts to solid practical issues impacted by tax rather than the hysteria of speculation on what the Chancellor might have waiting for us.

But the previously announced rise in corporation tax and dividend tax rate has a very wide impact on many small businesses, and it leads to a big question for many such businesses – “Should we be operating through a limited company?”

Clearly there is a main criterion of whether there is a need for limited liability protection in the event that a claim could be made against the proprietor of the business that would not be covered by business insurance. In many cases this is not a real risk, so you have to look at the other factors that make trading through a limited company attractive. Many people think that tax saving is such a motive and don’t review the detailed calculations to see how much benefit (or indeed cost) is at stake.

One of the main alternatives to trading using a limited company is to be a ‘sole trader’ such that the business is owned and operated by the individual, and they are taxed on all of the profits made, whether used personally or not. Most owners of very small businesses that are operated through a limited company rely on being able to extract all of the profits of the company each year for personal use, so it is important to compare the tax burden between company and sole trade.

The following table illustrates these net profits comparisons for next tax year at different levels of before tax profit.

Given that the savings at all but the middle bracket of profits of around £60-70,000 result in savings of less than £1,000, a good deal of this saving would be eaten away by the additional costs of running a limited company. This should perhaps cause more small businesses to think about disincorporating.

With changes to tax rates from April 2023, this old chestnut of a problem is yet again in sharp focus. Add to that a potential greater saving by using a partnership structure rather than a sole trader, if appropriate, and it seems clear than many small company owners need to be speaking to their accountant to see what structure they choose for the future to help with their cost of living problems.

Keith Senior is a director at Jacobs Allen Chartered Accountants