What is a limited company?

A limited company exists in its own right. This means the company's finances are separate from the personal finances of its owners. A company is a separate legal entity from its directors and shareholders. Company law places different rights and obligations on the shareholders, the directors and the company itself. The Companies Act 2006 is the main law setting out these rights and obligations.

Owning a company

Ownership of a company is divided into shares. Shareholders (those who own shares) may be individuals or other companies. They're not responsible for the company's debts unless they have given guarantees (of a bank loan, for example). However, they may lose the money they've invested in the company if it fails.

Running a company

One of the key considerations for you in deciding to form a company will be your level of involvement and power in the company - will you be a shareholder, a director, or both?

You may decide to set up a company and be the only director and shareholder, or you may decide to involve other people as shareholders and directors. If you're both a director and shareholder, you'll need to consider whether company law requires you to do certain acts in your capacity as a director or as a shareholder. In many cases, although the Companies Act 2006 states that the company must do certain things, it also states that if the company doesn't, its officers (the directors and secretary) will commit an offence and be liable to fines, and in some cases imprisonment. The shareholders aren't officers of the company and therefore not liable if the company doesn't comply with these obligations.

The directors may carry out the day-to-day running of the company, or they may employ managers to do this. However, major decisions in running the company are generally taken by the board of directors. Whether you're the sole director, one of 2 directors, or one of several directors will affect how much influence you have over the decisions the board makes. Generally, shareholders have the power to remove the directors but don't usually interfere with most of the decisions the board makes.

If your plan is to be a shareholder along with other people, you'll need to agree with them how many shares you'll each have. The greater your proportion of shares, the more voting power you'll have as a shareholder.

There are some key decisions that company law places in the hands of the shareholders. The law or, in some cases, the articles of association, say what proportion of shareholders must vote in favour of these decisions. This is called 'passing a resolution'. An ordinary resolution is one passed by shareholders holding over 50% of the shares. If you're a shareholder with fewer shares than this, you'd need the co-operation of the required number of shareholders to pass such a resolution.

Types of company

If you're setting up a company, there are 4 main types of companies that you need to consider:

• Private company limited by shares: this type of company has a share capital. The liability of each shareholder (called a 'member') is limited to any part of the share price that the member hasn't yet paid. A private company can't sell its shares to the general public.
• Private company limited by guarantee: in this type of company, members don't buy shares. The members' liability is limited to the amount that they each agree to contribute to the company's assets if it's wound up.
• Private unlimited company: this type of company may or may not have a share capital, and there's no limit to the members' liability. Because there is no limitation on members' liability, the company has to disclose less information than other types of company, e.g. they don't need to file annual accounts at Companies House. These companies are rare.
• Public limited company: this type of company has a share capital and the liability of each member is limited to any part of the share price that the member hasn't yet paid. A public limited company may sell its shares to the general public and may also be quoted on the stock exchange.

In this guide, we'll mainly focus on the private company limited by shares.

Advantages of a company

• The liability of the owners is limited to the initial cost of their shares (except in the case of a private unlimited company), or to their guarantee in a company limited by guarantee. However, it's not uncommon for business owners to be asked to offer personal guarantees, e.g. when borrowing money.
• It's often relatively easier trying to raise money, and easier to sell part of the business (since you simply need to sell a number of shares).
• Employees can own a share in the business.
• Suppliers and customers may think that limited companies have more credibility, and be keener to do business with you.
• There can be tax advantages for high earners who may be able to keep money in the business or put the money in a pension scheme.

Disadvantages of a company

• There is a cost in setting up a company, especially if you do this through a solicitor or an accountant. However, these days it's possible to set up a company quite cheaply (in some cases under £50) using web-based services.
• There is a lot of legislation applying to companies, and you'll need to know the rules that apply to you.
• You must file a confirmation statement (CS01) stating that the company has delivered all the information it was required to deliver to Companies House at least once a year.
• You must file annual accounts at Companies House. This must be in a format that complies with recognised accounting standards. Although in the case of small companies, you may only need to file a balance sheet, any information you do submit is a matter of public record, which anyone can view.
• In certain cases, especially if your turnover is millions of pounds, you must produce audited accounts. The cost of this can be relatively expensive (compared to producing non-audited accounts). See the Companies House website for more information.
• Employers must pay employer's National Insurance contributions and most employees also have to make contributions. If you plan to be an employee of your company, such as a director, the total National Insurance contributions will be higher than if you operate as a sole trader or partnership.