21 October 2014

Should you incorporate, and if so when?

We've been helping people open companies in Ireland since we opened the practice in 1984 and in more recent times through our company formation website - companyservice.ie. Setting up a Limited company is not a decision to take lightly, here are some of the issues to consider prior to incorporation:

Advantages of incorporation

Limited liability
If the business should become insolvent, it can be liquidated, and the debts die with the company.
Usually a lending bank will request personal guarantees from Directors, which may reduce the value of this somewhat.

Corporation Tax
  • The normal rate for trading companies is 12.5% (25% for any investment or rental income they may receive), but when the profits are distributed to the directors/shareholders the income is taxed at their personal rates and no credit is given for the CT the company has paid, so the advantage is negated.
  • There is a strategy that retains the profits in a company for a period of years paying the 12.5% CT and then liquidates the company, paying Capital Gains Tax at 33%, a total tax cost of 45.5%, slightly below  the present top rate of tax/PRSI/USC.
  • There is also a surcharge on undistributed rental or investment income of a company, and on the profits of some companies engaged in professional services.
Companies Registration Office - 14 Parnell Square


Pension scheme premiums
There are restrictions on the amount of contributions that self-employed people can make to their pension schemes tax-effectively. With a company scheme there is much more flexibility.

Perceived substance
In some areas of business people may expect to deal with a company, there may be a certain perceived substance to a company name.


Flexibility
It is easier to divide up a company (many small companies have 100 issued shares) for the purpose of changing ownership proportions.

Its not a partnership
Partnerships are governed by the partnership act 1890, and all partners are jointly and severally liable for debts which a third party might reasonably believe a particular partner was authorised to incur on their behalf. People have had their lives ruined by this.

Expenses
The rules about allowability of expenses for tax are similar, but motor travel and subsistence expenses are easier to document and civil service rates are applicable.

PRSI
The PRSI rates of payment for proprietary directors are lower, but their entitlements are also less.


Disadvantages of Incorporation

Red Tape
There is a good deal more regulation, as returns have to be filed with the companies office to strict deadlines, with penalties for late filing; in addition to a monetary fine (limited to €1,240 p.a.) late filing brings the requirement to have the accounts audited for 2 years, both onerous and expensive. Even without an audit, the firm’s accountants need to prepare a more complete file for a company as compared with a sole trader.

Directors responsibilities
Directors have extensive statutory responsibilities, with regulation by the Companies Office and the Director of Corporate Enforcement. If the company becomes insolvent and is liquidated, the Liquidator must file a report with the ODCE recommending whether the director should be prosecuted, usually for reckless  trading, if the company is judged as having traded on after it should have ceased.  The director may be precluded from acting as a company director or manager for a five year period.

A director can lend money to a company without limit, but a company is very restricted in what it can lend to a director.


Two Directors
Companies still need 2 directors and you will sometimes read about a director up in court where they have had no involvement in the company, but simply to make up the numbers (and they get little sympathy)

For the first time in Ireland, one director companies will be phased in, in early 2015 with the new companies bill. Old "Limited companies" can now opt to change to the new "CLS" or Companies Limited by Shares, with a constitution in place of a memorandum and articles. Any "1 director" company, must have a company secretary who is someone other than the director.

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Publication of Accounts
Limited liability companies have to file accounts with the companies office every year. Small companies do not have to file Profit and Loss accounts, but they do have to file their Balance Sheet, which might not show a flattering picture to the world.

Change in Company Law
A huge Companies Bill will be passed into law soon, and will change the face of Irish company law. Most proposed changes seem to be sensible.

When should you incorporate?
Incorporation is quick and relatively inexpensive. Some people believe they should incorporate when they take on employees for the first time, but there is no obligation to do so, and many sole traders and partnerships do employ many people.


If you transfer a business into a company there can be a capital gain on any goodwill involved; if a person is 55 or over, retirement relief can help with this.