What is Limited Liability?
Limited liability is a critical concept in the UK’s corporate structure, offering protection to company shareholders and directors.
Our article delves into the intricacies of limited liability in the UK context, examining its legal basis, advantages, and implications for business owners and investors. We aim to provide a clear and thorough understanding of how this concept shapes the responsibilities and risks associated with running a business.
What Does Limited Liability Mean?
Limited liability for a company, particularly within the UK business context, signifies that the financial liability of the company’s shareholders or members for the company’s debts and obligations is restricted to their investment in the company. This legal framework ensures that if a company incurs debt or faces legal action, the personal assets of the shareholders or members are safeguarded from being used to settle the company’s liabilities.
In essence, the company is treated as a separate legal entity from its owners. This separation means that the financial risks associated with business operations are borne by the company itself, not by its shareholders or directors. The liability of the shareholders is limited to the amount, if any, unpaid on their shares, and they are not personally responsible for the company’s debts. This structure encourages entrepreneurship by reducing personal financial risk and is a cornerstone of the modern corporate system.
What’s the Difference Between Limited by shares vs limited by guarantee?
In the UK, companies can be structured as ‘limited by shares’ or ‘limited by guarantee’. Understanding the differences between these two forms of limited liability is crucial for anyone involved in company formation or management.
Limited by Shares Most commonly found in private companies, a company limited by shares implies that it has shareholders, and their liability is limited to the amount unpaid on their shares. Essentially, if the company incurs debts or faces financial challenges, shareholders are only liable to contribute up to the value of their shares. This structure is predominant in profit-making businesses, where shareholders may receive dividends and have potential for capital gain.
Limited by Guarantee In contrast, a company limited by guarantee does not have shareholders but has members who act as guarantors. These members agree to contribute a predetermined nominal sum towards the company’s liabilities in the event of winding up. Typically, this model is adopted by non-profit organisations, charities, clubs, and societies, where profits are reinvested into the organisation rather than distributed as dividends. The members’ liability is limited to the amount they have agreed to contribute, which is usually a nominal figure.
Both structures offer the protection of limited liability, but the choice between them depends on the company’s purpose, profit distribution method, and the preferred approach to liability and investment. Understanding these distinctions is vital for any individual involved in selecting the appropriate legal structure for their business venture in the UK.
What are the Advantages of a Limited Liability Company?
There are a number of compelling advantages associated with a limited liability company. That includes:
No personal liability for company debts
One of the primary reasons the owners choose to incorporate their business is to avoid personal liability for company debts.
This allows the directors to trade without putting their personal property, cash and other assets at risk. As long as they adhere to their duties and responsibilities as directors then in the case of insolvency, the creditors will only be able to recover money from the company.
Limited companies are taxed on their profit at the current rate of 19 percent. They are not subject to the personal tax rates placed on sole traders and partnerships (unlimited companies) which can be as high as 45 percent.
Directors of limited companies can pay themselves a salary at the personal allowance level and take the rest of their pay as dividends, which are taxed at a lower rate. This will reduce the tax burden and keep more money in their pocket.
As a limited liability company is deemed to be a separate legal entity from its owners, the company will continue to exist beyond the life of its members. That means, if directors or members retire or experience ill-health, the company will continue to exist and operate. This can provide security for employees and other company members.
Another benefit of a limited liability company is the ability for key employees to be granted shares via a company share scheme. This can boost employee motivation and provide a monetary reward beyond a mere salary. Having a vested interest in the company’s success can also improve employee loyalty.
Protection of the company name
As part of the process of registering a limited liability company, a company name must be chosen. Company names can become valuable assets. Registering a name at Companies House prevents other businesses from using the same name. However, Companies House will accept the registration of a name which is very similar, so it may be worth registering alternative spellings or versions of the same name and keeping those as dormant companies.
Are there any exceptions to limited liability?
Although limited liability provides a great deal of protection for company shareholders and directors, there are some circumstances when they can become personally liable for business debts. That includes:
- If they sign a personal guarantee;
- If they continue to trade in the interest of shareholders (instead of the creditors) despite knowing the business is insolvent;
- If they dispose of assets at less than market value;
- If they overpay themselves from the company’s account creating an overdrawn director’s loan;
- If funds are raised to repay creditors via fraudulent means.
What are Limited Liability Company Debt Obligations?
Despite the protection of limited liability, company debts can still be very stressful and worrying for the directors. Not only is their livelihood at risk, but they also have to be aware of their changing obligations.
Once cash-flow is compromised, a business can decline very quickly. Directors then have to monitor their financial position very carefully. If the business becomes insolvent (you can check using this free insolvency test) then they must prioritise the creditors’ interests. Failure to do so could lead to personal liability for a proportion of the company’s debts further down the line.
Company debts can include unpaid supplier invoices, unpaid rent and even wages owing to employees. However, one of the most worrying debts of limited liability companies are those owing to HMRC. VAT, PAYE and corporation tax debts are a common issue for company directors. HMRC has its own range of powers to pursue arrears aggressively which can make this situation incredibly stressful.
Obtaining help and support to deal with limited liability company debts, and specifically tax debt, is essential. Being proactive about controlling cash-flow and putting a firm plan in place is an important first step, as is identifying areas of the business where money is being wasted.
Company debt experts can help struggling directors to explore debt refinancing and consolidation options which could provide the working capital required to repay creditors and drive the business forward.
How can we help?
As a UK leader in limited liability company rescue, recovery or closure, we can provide you with the expert advice and practical assistance to support you as a director. Please call us on 0800 074 6757, or email firstname.lastname@example.org.