Should I disincorporate my business?

Not all that long ago, incorporating was a logical step for many small business owners. Setting up a company not only gave you major benefits such as limited liability, but a more generous dividends tax regime also meant you’d usually retain more of your profits. However, since 2016, the tax-free dividends allowance has dropped from £5,000 to £500, while both the basic and higher dividends rates have increased. Given this, it’s not surprising that many business owners are asking themselves: “Should I disincorporate my business?”

Although disincorporation can offer many benefits, it’s not a decision that should be taken lightly. The benefits and drawbacks of disincorporating vary depending on your company’s circumstances. To help you, we take a closer look at the pros and cons of disincorporating a company.

What is disincorporation?

Disincorporation means transferring a business from a limited company structure to an unincorporated structure, such as a sole tradership or a partnership. In a nutshell, it’s about changing the legal form of the business without changing the underlying ownership.

Assuming the company is solvent, there are two main routes you can take to disincorporate your business.

• Voluntary strike off. This is an option if your company hasn’t traded for three months. You use form DS01 and apply to strike off the company from the Companies House register. It costs £33 to apply online.
• Members’ Voluntary Liquidation (MVL). This is generally best for companies with significant retained profits. It’s also more expensive as you need to appoint an authorised insolvency practitioner to take care of the liquidation process.

If your company is insolvent, you need to opt for a Creditors’ Voluntary Liquidation. This is similar to an MVL, but creditors rather than directors manage the liquidation process with the help of the authorised insolvency practitioner.

There are different tax implications for each route, particularly regarding whether amounts distributed to shareholders are treated as income or capital. Before initiating any disincorporation, we strongly recommend you ask advice from an experienced accountancy firm like THP.

What are the pros of disincorporation?

There can be significant benefits if you disincorporate your business. These include the following:

1.      Less admin and regulation

Running a limited company comes with more red tape – annual accounts, Companies House filings, Corporation Tax returns, confirmation statements and more.

In contrast, by disincorporating and operating as a sole trader or partnership you’ll have:

• One set of accounts (for tax purposes)
• A simpler Self-Assessment Tax Return
• No Companies House filing requirements

2.      Lower accountancy costs

Without statutory accounts and corporate filings, accountancy fees should be lower and save you money over time. Don’t forget, however, that good accountancy advice can help to legitimately lower your tax bill even as a sole trader or partnership, making it a smart investment.

3.      More flexibility in drawing income

As a sole trader or partnership, you have more flexibility in drawing income. Because you don’t need to worry about PAYE payroll or dividends, accessing income is simpler.

4.      No double taxation

In a company, profits are taxed at the corporate rate, and then personal tax may apply when you draw those profits. Sole traders and individual partners pay Income Tax and National Insurance on profits just once, which is simpler – and may be cheaper – depending on your income level.

5.      More privacy for disincorporated businesses

Company accounts and details are published by Companies House. Sole traders and partnerships can keep their accounts and details private.

6.      Simpler tax planning

When you disincorporate, your income is taxed as it arises. This can be simpler to manage, particularly for smaller businesses with modest profits. In addition, unincorporated businesses may qualify for additional loss relief options, such as sideways relief.

What are the cons when you disincorporate?

Unfortunately, there can also be significant drawbacks when you disincorporate a company. It’s important to understand the implications of these and to seek professional advice before you start any disincorporation process.

1.      Loss of limited liability protection

This is a really huge drawback. As soon as you disincorporate, you become personally liable for debts and legal claims. If something goes wrong, your personal assets – including your home – could be at risk.

2.      Disincorporation costs and tax implications

Disincorporating a company costs money. You may face:

• Capital Gains Tax on asset transfers (although a THP accountant can advise you on any available reliefs)
• Stamp Duty Land Tax on any property that’s involved
• Professional fees (such as liquidation fees)

In addition, when you disincorporate, you’ll no longer able to make capital allowance claims. It’s important to get advice on this and other, similar, implications. Many people don’t realise that Disincorporation Relief was scrapped in 2018, potentially making the process more expensive from a tax perspective.

3.      You might pay more tax!

The higher your company’s profits, the higher the chance that you’ll pay less personal tax if you remain incorporated. Ask an accountant to crunch the numbers for you and advise on the most tax-efficient structure for your business.

4.      Less credibility

If you disincorporate, you may have less credibility with clients, suppliers and lenders. In addition, some firms will only let incorporated entities bid for valuable contracts.

5.      Fewer tax planning opportunities

Limited companies can access tax planning strategies unavailable to sole traders, such as:

• Splitting income via shareholdings
• Retaining profits in the company for reinvestment
• Claiming certain allowances and reliefs only available to companies

Questions to ask before you decide to disincorporate

Before you decide whether or not to disincorporate, it’s worth asking yourself the following questions.

• Are you mainly seeking simpler administration, or is there a tax saving to be made by disincorporating?
• How stable is your business’s profitability?
• Do you need the legal protection of limited liability?
• Will the cost of disincorporation outweigh the benefits?
• Could restructuring the company (rather than closing it) solve your issues?

Summary

Disincorporation can make sense in the right circumstances, particularly for small, low-risk businesses where administrative simplicity is a priority. However, for higher-profit or higher-risk operations, the benefits of limited liability and Corporation Tax planning may outweigh the downsides.

The decision to disincorporate should be made with professional advice. The tax implications can be complex, and the ‘right’ decision will depend on your business’s size, structure, and future plans.

If you’re considering disincorporating, speak a THP business structure expert before making any moves. The wrong timing or approach could create unexpected tax bills – and the right one could save you thousands!