If you’re going to work as a contractor, you will probably have to operate through a limited company. You can use an umbrella company, but setting up your own limited company for contracting is often the best and most tax-efficient way to trade. Your own limited company means you’ll have complete control over the finances of your business, reduce your tax liabilities and keep your personal assets protected.
Why is it important to set up a limited company for contracting?
Many self-employed people work as sole traders. It’s rare for contractors to go this route, however, as companies are wary of hiring sole trading contractors, in case HMRC thinks they are employees – this has major implications for tax under IR35 legislation. Another big reason is that sole traders carry unlimited liability and also often end up paying more tax.
Going down the limited company route means you are far more likely to be hired, and your business will also benefit from tax efficiencies and the protections of limited liability.
How do I set up a limited company for contracting?
Setting up a limited company for contracting is relatively straightforward.
1. Choose a company name
Your company name is up to you, though there are a few rules to follow. Your name needs to end with ‘limited’ or ‘ltd’ and can’t contain any sensitive or offensive words. Additionally, Companies House won’t allow you to use a name that’s the same as, or very similar to, an existing company, so you’ll need to be unique.
One very important tip for contractors is to avoid naming the company after yourself. Otherwise you may fall inside IR35 legislation and be treated as an employee. HMRC will be checking that you genuinely freelance, and aren’t an employee trying to avoid tax by posing as a contractor. Having a business-like name will help emphasise that your company is distinct from you.
2. Decide on your company address
If you don’t have a designated office space, your company address can be where you live or where your accountant’s office is. Whatever address you use, it needs to be in the same country as your company and must be somewhere you can receive official mail.
3. Choose the company directors
Using a contractor company will have just one director, i.e. yourself. However, you might decide to go into business with one or more friends, in which case you may all want to be directors. Directors are responsible for making decisions, filing accounts, and ensuring the company pays corporation tax, so whoever you appoint must be up to the task. If you choose, you can also appoint a company secretary to handle the administration, but usually your accountant can take care of this for you.
4. Decide share structure and shareholders
Usually you’ll be the sole shareholder, but if you have more than one director (see above) then each one may be a shareholder too. You’ll need to be clear over the number of shares each person owns. This is important when it comes to declaring dividends, as each shareholder will receive a portion of profits in relation to the shares they own.
5. Set up your company at Companies House
With all this in place, you’re ready to set up your company with Companies House. You can register online (£12 fee) or by post (£40) by completing form IN01. Online registrations take 24 hours to process and you’ll be registered for corporation tax at the same time. If you register by post, applications take up to 10 days to process and you’ll need to register for corporation tax separately within three months. Once registered, you’ll receive a certificate of incorporation and be good to go.
6. Get a company bank account
A limited company requires its own bank account, as it’s a separate financial entity from yourself. Your chosen bank will require some information from you, including your Companies House registration number and the details of all directors, including names, dates of birth, addresses and National Insurance numbers.
7. Register for VAT
If your annual taxable sales are above £85,000 a year then you are required to register for VAT. If not, you can still register voluntarily if it makes sense for your business. Being VAT registered can help your cashflow, since you’ll be able to claim back VAT on products and services bought. It can also make your business look more established, which is appealing to some clients, lenders, and suppliers.
You can register for VAT online via the HMRC website. It typically takes 30 working days to receive your certificate. VAT can be complex, so it’s good to have an accountant to handle VAT returns and deal with HMRC on your behalf.
8. Keep your books in order
As a limited company, there are several statutory accounts you’ll need to file every year, in addition to your tax return. These include balance sheets, a profit and loss account and director’s report, though if you’re a small company you might be able to send simpler, abridged accounts.
9. Protect yourself with insurance
When you run your own business, you carry a burden of risk that employees don’t have. Therefore it’s important to protect yourself with appropriate business insurance. For example, professional indemnity insurance protects you if your advice or service results in loss for a client.
Insurance has other benefits too. It’s another great way of demonstrating that you are in fact a contractor, and not an employee, which is important for IR35 reasons.
If you’re looking for help with any of these steps, it’s worth consulting with an accountant. They can guide you through the process, or handle much of it for you. It’s part of the many services they offer.