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Contractors incorporate limited companies primarily to reduce risk, shows HMRC survey

Contractors incorporate limited companies mainly as a mechanism to manage risk, to benefit from tax and National Insurance Contributions savings (NICs), to meet contract obligations and to enhance credibility.

This is according to new research by HMRC, HMRC Research Report 317 – Reasons behind incorporation. The report also shows that for those respondents who highlighted tax and NI savings as a reason for incorporation, the “initial incorporation idea was often motivated by different business reasons and the potential tax/NI benefits were not apparent until after incorporation”.

Despite the recession, the number of new companies incorporated in the UK “has risen progressively since 2008”. The report suggests that: “Possible reasons for this increase in incorporations could include changes to the structure of the labour market and a number of recent policy changes regarding corporation tax.”

The research fills important knowledge gaps that were highlighted during the House of Lords Select Committee on Personal Services Companies (PSCs) inquiry into “the consequences of the use of personal service companies for tax collection”.

During the inquiry, significant anecdotal evidence was presented that most contractors did not incorporate to save tax.

Many witnesses told the Lords that it was mainly for reasons of limited liability and because they would otherwise not be offered contracts by clients and agencies that contractors chose to incorporate. The research provides quantitative data to help support this view, highlighting that the tax savings often only become apparent after incorporation.

HMRC’s research also dispels one commonly held contracting myth that the administrative burden of incorporating and running a limited company is high.

Over half of those businesses interviewed “did not think that the administration involved was too much of a burden”. In contrast, only a third of respondents did feel limited company administration “was too much of a burden”.

Over 1,000 nano- and micro-businesses participated in HMRC’s survey, which was conducted by Ipsos MORI. Many respondents closely fit the profile of contractor limited companies, with 47% having no employees and 30% with a turnover above £100,000.

Just under half (46%) were employed prior to incorporation, versus about a third who were self-employed. This suggests that many of the companies may have been started by ‘permies’ who chose to go contracting.

Published: 09 October 2014

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