Sole traders advised against incorporating

"The next Budget is certain to introduce measures that make incorporation less attractive" - Roger Williams, partner at Wilkins Kennedy

Changes in the tax system for limited companies led to a dramatic increase in the number of new incorporations last year from 225,000 to 322,000, but the Chancellor has hinted that he could redress the balance at the next Budget.

At the moment, business owners are tempted to incorporate by the prospect of paying corporation tax of a maximum of 30 per cent (and as low as 10 per cent for small businesses) instead of income tax at 40 per cent.

Incorporated businesses also avoid National Insurance on dividends as the tax is paid later rather than under PAYE. In addition, under incorporation, owners have reduced liabilities as shareholders for just their original investment in the company as opposed to sole traders who have unlimited liability. Similarly, any legal action is likely to be against the company and not individual.

However, Roger Williams, a partner at Wilkins Kennedy chartered accountants and business advisers, believes the situation could change again at the next Budget.

In his pre-Budget report in December, Gordon Brown voiced concern that some business owners were incorporating so as to take their income from dividends instead of paid salaries in order to reduce tax liabilities and is likely to act in order to prevent this continuing.

Williams believes one option the Chancellor may purse is to make companies pay National Insurance on dividends if they are controlled by less than five people or where directors are shareholders.

Williams says: “This would remove a major tax advantage and could in some cases tip the balance back towards sole trading or partnership for many small businesses. The next Budget is certain to introduce measures that make incorporation less attractive.”