Recent changes to tax rates have made the prospect of incorporating your practice a tempting one.
The drop in corporation tax is of particular benefit, as the levy is now equal to the basic rate of income tax.
Limited companies can also be used to avoid a large portion of income tax by having shareholders draw the majority of their income as dividends.
Add to this a rise in national insurance, which the self-employed have been stung for, and incorporation would appear to be the way forward.
The changes came into effect in April 2011 and saw the corporation tax rate for small companies fall by 1% (to 20%).
Self-employed people were less fortunate and received an increase in their national insurance main rate to 9%, in addition to 2% on profits that exceed £42,475.
As a direct result, self-employed individuals making £60,000 in profits could save over £4,400 through incorporation, although some significant changes would need to be made to maximise their advantage.
For a start, it would be advisable to take their personal allowance of £7,475 for a salary and complete their income with dividends.
This approach saves money because dividends have a smaller rate of income tax than earnings, and of course they will avoid national insurance contributions.
There are additional opportunities to save money at higher levels of profit, as well as by leaving some of the profit untouched.
Another smart method of circumventing tax is by paying a spouse or partner in dividends, particularly if their income is not subject to the higher rate of tax.
On the other side of the coin, those achieving lower levels of profit may find the amount saved through incorporation doesn’t justify the cost of administration and compliance.
In addition to this, an adjustment to concessions for capital gains tax (CGT) may, in future, increase the cost of closing a company.
As things currently stand, shareholders pay no more than 42.5% in income tax on dividends.
Distributions in a liquidation are the exception as they are liable to CGT, which is normally 10%.
Existing legislation permits the avoidance of company liquidation charges while paying CGT on distributions prior to the company’s closure.
This will change once the new legislation comes into effect, which imposes a limit of £4,000 on distributions that meet the criteria for CGT.
However, the date for the draft legislation to go active has not yet been announced.
Incorporation may be the question, but only you have the answer that is right for your practice, depending on the size, profits and long-term goals of the business.
For more information please visit www.lansdellrose.co.uk or call Lansdell & Rose on 020 7376 9333.
