Tax Benefits for a Barrister of Incorporating as a Limited Company
Introduction: The Decision to Incorporate as a Barrister
If you are a barrister contemplating whether to continue as a sole trader or incorporate as a limited company, you will find this guide invaluable. The decision can have significant implications on tax, national insurance, and deductible expenses.
Here at Jack Ross Chartered Accountants, we aim to elucidate the pros and cons to help you make an informed decision. If you need expert advice, use the contact form on the right and one of our barrister tax team will be in touch.
Why Barristers Might Consider Incorporating
Many barristers operate as sole traders, which is the default way to trade as a barrister. However, trading as a limited company offers substantial tax advantages and a host of other benefits. The company pays corporation tax, currently at a rate of 19%, on its taxable profits. After this, profits can be retained within the company or distributed as dividends.
Tax Implications: Corporation Tax vs Income Tax
One of the most compelling reasons to consider incorporating is the difference in tax rates. As a sole trader, your profits are subject to income tax rates, which can be as high as 45%. On the other hand, a limited company pays corporation tax on its profits at a much lower rate of 19%. This leads to a higher take-home pay and greater tax efficiency.
Dividend Tax: A Unique Benefit
After paying corporation tax, the remaining profits can be distributed as dividends to shareholders. The dividend tax rate starts as low as 7.5% for the basic rate taxpayers, which is significantly lower than income tax rates. This approach is often more tax-efficient and allows you to top up your income in a manner that incurs lower tax liabilities.
VAT Registration
If your earnings exceed the VAT threshold, VAT registration becomes obligatory. The VAT rate for legal services is typically 20%, and you will need to ensure you are compliant with HMRC regulations. Limited companies often find it easier to manage VAT purposes, given the clear distinction between personal and business finances.
Making Tax Digital: A Mandatory Requirement
HMRC has mandated that businesses must comply with the Making Tax Digital initiative. Operating through a company can make it simpler to adapt to these new VAT reporting requirements.
National Insurance: A Key Consideration
A critical financial aspect to consider when deciding between being a sole trader and a limited company is national insurance contributions (NICs). Sole traders pay Class 4 NICs on their profits, which can accumulate quickly. In contrast, when operating as a limited company, your NICs are often lower, further enhancing tax efficiency.
National Insurance: Reducing Liabilities
As a limited company, you have the flexibility to take a low salary and top up with dividends, thus reducing both income tax and national insurance contributions. This approach is often more advantageous than the fixed percentages that sole traders have to contribute towards national insurance.
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Deductible Expenses: Maximising Tax Relief
Expenses incurred in the day-to-day running of a business can be deducted from your taxable income, offering some tax relief. These can include the costs of mileage to and from court, or even costs incurred during pupillage. Such expenses are often easier to manage and apportion via a limited company, especially when you use cash basis accounting.
Special Deductions for Barristers
Barristers might incur specific costs like the Bar Standards Board fees or specialist barrister attire, which can be considered deductible expenses. Such nuances are easier to manage through a limited company and can offer a clearer financial picture at the end of the tax year.
The Limited Liability Status: Minimising Financial Risk
One of the less discussed but essential benefits of incorporating is that the risk sits with the company, not the individual. This limited liability status can protect your personal assets in case the business incurs debts or faces legal challenges.
Understanding Liability and Its Tax Implications
The separate legal entity of a limited company means that any debts are the company’s responsibility. This can be advantageous not just from a liability perspective but also when calculating tax payable based on the taxable profits and losses of the business.
Cash Basis Accounting: Simplifying Your Finances
If your turnover does not exceed a certain threshold, you may opt for cash basis accounting. This accounting method is simple and straightforward, allowing you to pay tax only on the money you have actually received. This can be particularly useful for barristers who may have a significant amount of income pending from debtors.
Making the Switch to Cash Basis
Switching to cash basis accounting can be beneficial for tax and national insurance calculations, especially when you are operating through a limited company. It offers a more immediate snapshot of your financial standing, making it easier to plan for tax liabilities.
Capital Gains Tax: An Often Overlooked Aspect
When a barrister operates through a limited company, they also need to consider capital gains tax on any assets sold or transferred. However, this can often be offset against other taxes, contributing to tax efficiency. Limited companies usually have more options for tax relief on capital gains than sole traders.
How Capital Gains Affect Your Taxable Income
The market value of assets, such as a car used for business purposes, can impact your taxable income. Understanding these nuances is crucial for optimising your tax return, especially when filed with HMRC via a limited company.
Preparing for Changes: Stay Ahead of Tax Legislation
Tax legislation is ever-changing, and barristers need to ensure they are up-to-date to maximise tax advantages. Operating as a limited company makes it easier to adapt to these changes, from new VAT rates to changes in income tax rates.
Why Professional Guidance is Crucial
Given the complexities of tax legislation, it is advisable to seek professional advice. At Jack Ross Chartered Accountants, we provide accountancy services tailored for barristers, ensuring you are not only compliant but also making the most tax-efficient decisions.
Seeking specialised accounting services for barristers? Complete the contact form below and a Jack Ross advisor will be in touch to discuss tailored solutions.
A sole trader does not have limited liability, and so is personally responsible for any debt or losses their business incurs. A limited company offers limited liability, meaning you are only responsible for the debts that you have personally agreed to in your capacity as a Director. The company can also take advantage of tax-efficient structures and can approach the banks for additional capital.
When considering whether to become a sole trader, be aware that you will need to file a personal tax return, covering your earnings from all sources. You may also be eligible for certain allowances which can reduce your personal tax liability such as the mileage allowance – 45p per mile for the first 10,000 miles and 25p thereafter.
Yes, if you are operating either a sole trade or limited company, then you must register with Companies House at least five days before commencing trading. This will enable HMRC to collect data about your business operations for making tax digital.
Charles Eastwood, Barrister, St Johns Buildings Chambers
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