The next few articles are going to explore the structure of veterinary practices as alternatives to the traditional partnership. In this first article I am going to cover limited companies; in the second I will look at the tax implications of forming a company and the methods of profit extraction; finally, in the third article I will be looking at Limited Liability Partnerships which are becoming better understood and as their tax treatment is quite similar to a partnership, this can be dealt with in one article.
A limited company is a separate corporate body and it has a requirement to file its accounts annually with the Registrar of Companies: these are then on public record. Small companies can file abbreviated accounts, which basically consist of the balance sheet and a limited number of notes. These company notes do not include details of related parties or other issues that have to be disclosed in a set of full accounts which are required for HM Revenue & Customs (HMRC). For unquoted companies the accounts have soon to be filed within nine months of the year end.
Choosing a name
In my experience, one of the things which usually takes time when deciding to form a limited company is what name it should go under! A limited company continues to exist as shareholders come and go, so it is better to have a name that either attaches to the specific location of the practice or something similar, rather than to any one individual, although this is a matter of personal preference.
The use of the word “veterinary” in the title will require permission from the RCVS.
As limited companies are more regulated than partnerships in the format of their accounts, it is far more prescriptive and a lot more information needs to be disclosed in the full accounts. If the business is quite large, it may require an audit. The limit for an audit requirement is currently £6.5 million turnover and £3.26 million balance sheet value. If one of these is exceeded, then an audit is required. The company also has to file an annual return each year, which can be completed online for £15 or in paper form for £30.
A limited company’s disclosure and behaviour is governed by the Companies Act 2006 and relevant clauses from earlier Acts, so some of this legislation has only recently been implemented.
The ownership of a company is determined through the share structure. This can be as simple or as complex as you wish, as it is possible to set up different classes of shares that take part in dividends to a different extent. Not only can you have different classes of shares which may have different rights, there may be different numbers of shares available in each of those classes.
When the company is set up it doesn’t necessarily have to be in its final form, as it can pass resolutions throughout its life to adapt to changing circumstances.
The ownership follows the ratio of shareholding. Three shareholders may all have one share, in which case they would own one third of the company each, and the situation would be the same if they had 300 shares each.
The number of shares issued partly depends on the amount of working capital that the company both needs or may need to have access to. If the company is to have significant borrowings, lenders often like to see greater investment by the owners rather than just £1 each!
Taking responsibility
If the company is owned by the shareholders but run by the directors (in practice these people are the same for small companies) it used to be that the company had to have a secretary, but under the 2006 Companies Act it is possible to dispense with the company secretary, as long as a director takes on the responsibilities that were previously associated with that post.
The duty of care imposed upon directors in running the company and carrying out their responsibilities has been set out more clearly in the new Companies Act, particularly in relation to such things as conflicts of interest, where a director has a responsibility to avoid a situation in which he has, or can have, direct or indirect interest which conflicts or possibly may conflict with the interests of the company.
This may relate to property deals, or the interests of any connected parties. The director must always have a duty of care to protect the assets of the company as part of his responsibilities. The Companies Act requires that companies have one director who is a “natural person” which means that you cannot have all of your directors as other corporate entities. Directors also have to be 16 or over.
Shareholders’ agreement
In my view it is best practice to have a shareholders’ agreement, much like you would have a partnership deed to cover the various transactions the company will be carrying out. For example, circumstances on ceasing to be a shareholder would be associated with directorship and employment and this avoids a difficult situation where you may have share ownership by an individual who is no longer associated with the company.
As with partnership deeds, it is important that these rules are laid out early on because if they are not, the consequences could be a dispute. This is obviously very disruptive and as always it is best to agree everything while the atmosphere is harmonious!
One of the questions people often ask is, “What should go into the company and what shouldn’t?” At one time it was popular to leave properties outside limited companies so the previous partners would pick up the capital gain. However, there are some recent tax changes, which I will go into later, that mean this is no longer automatically the route to follow, as in certain circumstances some valuable capital gains tax exemptions can be lost.
One thing that will be transferred into a limited company on incorporation is the goodwill of the practice. This goodwill can be valued as it actually changes hands from the partners into the corporate structure of the company.
In the majority of circumstances, the capital gains tax liability would be covered by entrepreneurs’ relief and as a consequence the effective rate of tax could be as low as 10%. Although this creates a tax liability where effectively there is no income to meet it, the goodwill will be loaned by the individual to the limited company and cash generated in the form of profit can be paid out to repay the loan. In some circumstances this can be an effective “tax holiday”, although obviously due consideration has to be given to items like pension commitments, etc.
On the subject of pensions a limited company can pay pension contributions. HMRC will allow deductions for a package of remuneration which may be made up of part salary and part pension payments. Provided the combination of these doesn’t equal a sum which is clearly in excess of market rate for the position, this is allowable.
Obviously not all individuals will want to take their income by way of salary as there are certain advantages in using dividends, in connection with national insurance, which I will pick up on in my next article.
When considering what assets to put into the limited company, there are issues such as cars which also need to be thought about. It can sometimes be more expensive to have a car provided by the limited company than to pay for it individually.
Through the limited company there will be taxation and benefits in kind and it is usually worth carrying out an exercise to determine whether the approved mileage allowance payments from HMRC of 40p per mile for the first 12,000 miles and 25p thereafter is more beneficial than actually owning the car in the company.
It depends on the age of the vehicle and a number of other factors, but it shouldn’t automatically be assumed that the individual’s car will transfer into the company, as this is often detrimental.
Employ family members
Much the same as with the partnership, there is the opportunity to employ family members within a limited company, provided they have a defined role. You do need to be mindful of the national minimum wage, and that the duties they are employed to do are actually being carried out by them.
There is also anti-avoidance legislation centred on the sharing of profits in a limited company with a spouse, particularly where the spouse has no active role in the company. The implementation of some of this legislation is being deferred at present.
I hope this has given some insight into the workings of a limited company, and I will cover the more crucial aspects of tax next time, having set the scene.
- Please note that individuals should take their own professional advice before making any decisions.
