The biggest decision you’ll make as a new business owner is whether you want to set up as an unlimited liability company or not. How you structure your new business will have lasting implications for you. If you decide to go the company route (rather than setting up as a sole trader), then your ultimate choice will be limited liability companies vs an unlimited liability business structure.
Unlimited liability will mean the business owners will be responsible for all business debts if things go wrong. That means business owners personal assets may need to be sold in order to cover company debts. Failing to properly cover your business debts could lead to the owners losing their homes and cars in order to cover the debts. Limited liability means the company and its owners are a separate entity.
Read on for further insight into the pros and cons of limited liability in business so you can decide if it’s the right choice for your business venture.
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What Does It Mean If A Business Has Unlimited Liability?
Unlimited liability businesses are ones where the owners of the company are solely responsible for all the company’s debts and its other obligations. This means that if the company can’t pay off its debt, the owners will be held accountable which will mean that they are putting their own savings and investments at risk to offset the bills of the company.
On the flip side, when using this unlimited liability structure, the owners are also entitled to take all of the profits after tax. This is because the company is not regarded as a legal entity, which means profits are owned by the owners of these businesses rather than the business itself, letting those owners keep more of their profits.
What Types Of Businesses Have Unlimited Liability?
Most often, sole traders and partnerships have unlimited liability because the business is mainly managed by an individual or a small group of individuals.
The following listed ventures are mostly structured as sole traders, including:
- Freelancers
- Consultants
- Hairdressers
- Plumbers
- Electricians
Note: The business structure of ‘Partnerships’ is a bit different and is often used when two or more business owners share profits, losses and liabilities. This means that if one member of the group is unable to pay, the others are accountable. For this reason, partnerships should only be entered into with people that you trust and have been financially vetted.
The Advantages Of Having Unlimited Liability
Operating a business with unlimited liability has some advantages including;
- Attracting investors
- Keeping all profits
- Lower taxes
1. Attract More Investors
One advantage of operating your business with unlimited liability is that you’re more likely to attract investors. This is because they are not taking on as much risk as they typically would if investing in a limited liability company.
Having this option available can help you to grow your business if you can find investors who are happy to invest in your business. This is a great route for businesses with a strong customer base and tried and tested products or services that need additional funding to scale up.
If all goes well and your business growth plans succeed, you and your investors will get a great return on investment (ROI) which can, in turn, snowball into attracting even more external investment opportunities in the future.
2. Keep All The Profits
Being able to keep all of the profits after tax deductions is another selling point for unlimited liability in business. As the business is not classed as a legal entity itself, like it would be in a limited liability company, it means that the profits belong to the business owners and the business owners alone.
While most will decide to reinvest back into the business, you can choose to take profits out without having to share profits amongst shareholders like you would have to in a limited liability set-up.
3. Lower Taxes
Another advantage of running your company as an unlimited liability is that it helps you to save on taxes. Businesses that operate with limited liability are classified as legal entities which means they are charged at a higher rate than sole traders and partnerships.
So if your company is operating with unlimited liability, you would save on taxes because you will be charged tax at personal income tax rates which have much more generous rates than the corporation tax system.
The Disadvantages Of Having Unlimited Liability
There are, of course, also disadvantages of having your business operate with unlimited liability. These include:
- Personal assets at risk
- Additional paperwork
- Difficulty in attracting shareholders
- Missed opportunities
1. Personal Assets At Risk
The biggest downside of operating as an unlimited company is the risk to your own cash and assets. This risk increases as soon as the business gets into financial difficulty because you and any other owners are personally liable for business debts – and you’ll need to pay those debts by selling personal assets where necessary.
Always be aware that your personal assets are at risk in this type of business structure and take proactive steps to minimise business debt to reduce the chance of this happening to you.
2. Additional Financial Reports & Statements
Auditing requirements tend to be very tight for unlimited liability companies and require a lot of transparency with the public and with creditors. This is because there is no corporate shield between them and the business as there would be for limited companies.
Business owners and partnership members must publicly display their names on an open public record. This is again because they are directly accountable for any business debts.
On top of this, they are required to prepare audited financial statements every year as well as detailed tax returns. These reports must accurately reflect the financial position and performance of the business.
3. More Difficult To Attract Shareholders
Shareholders specifically own a piece of the company and it can be hard to attract new owners to the business, due to the increased risk of the business structure. This is particularly an issue if you’re trying to attract new shareholders because the business is doing badly.
By having less legal and financial protection for shareholders, unlimited liability companies may find it harder than limited companies to attract and take on new shareholders through the public marketplace.
4. Missed Opportunities
The final disadvantage is that you may miss out on profitable opportunities that will assist your business.
Because your business runs on unlimited liability, business owners can often be mindful of taking a low-risk approach to business to protect their assets. Ultimately if you gamble in this kind of business and it doesn’t pay off, it could be a very costly mistake.
Types Of UK Business Structure
When you first start a new business one of the first things you need to decide is the legal structure that you will use for your business.
There are four main types of business structures you can use in the UK:
- Sole trader
- Partnership
- Limited liability partnership (LLP)
- Private Limited Company (Ltd)
Each of these has different advantages and disadvantages.
Sole Trader
A sole trader is defined as a self-employed person who owns and operates their own business without the need to collaborate with any other individual. Most of the time, they are the only employees of the business but they are legally allowed to hire staff if they want to.
| Advantages | Disadvantages |
| You have total control over your business. | When you operate as unlimited liability, your own assets are at risk if you fail to settle business debt. |
| You have the liberty to keep all of the profits. | It can be harder to raise capital. |
| It’s easy to set up and run. | You may find it difficult to take time off because if you don’t work, you won’t be able to bring money in to pay your living expenses. |
| It’s less expensive to run this type of business than other types of business. |
Partnership
A partnership is a business that is owned by two or more people. They can be described as general partnerships or limited partnerships.
| Advantages | Disadvantages |
| It’s easier to raise capital than if you’re a sole trader. | You have unlimited liability, which means your personal assets are at risk. |
| You can pool resources and skills. | There can be disagreements between partners. |
| You’ll have someone to share the workload with. | It can be hard to dissolve a partnership. |
Limited Liability Partnership (LLP)
A limited liability partnership (LLP) is a business that is owned by two or more people and operates with limited liability. This means that each partner is responsible for their decisions, and not that of their other partners.
| Advantages | Disadvantages |
| You have limited liability, which means your personal assets are not at risk. | There can be disagreements between partners. |
| It’s easy to set up and run. | It can be hard to dissolve an LLP. |
| It can be used as a tax-efficient way to run a business. | There is more administrative paperwork when it comes to setting up and auditing. |
Private Limited Company (Ltd)
A private limited company is a business that is owned by one or more shareholders. The shareholders of this type of company have limited liability which makes them responsible for only their actions and not those of the company.
| Advantages | Disadvantages |
| You have limited liability, which means your personal assets are not at risk. | There’s more paperwork and compliance requirements. |
| It can be easier to raise capital than if you’re a sole trader. | It can be harder to make decisions, as you need shareholder approval. |
| Shareholders can sell their shares if they want to. |
Limited Vs Unlimited Liability – Which Is Right For You?
If you’re ready to take the plunge and choose between limited and unlimited liability, here is a final overview of the key differences:
Unlimited liability:
There are far fewer formal regulations that you need to follow so you can be more flexible when it comes to record keeping. Being directly responsible for the business and it’s debts puts you fully in the driving seat and means that the success or failure of the business is solely in your hands.
On the downside, you may struggle to attract external investors and if you wanted to transfer ownership, you would need the agreement of all the partners in the business. Of course, the biggest consequence of unlimited liability is that there is no separation between your personal assets and the business itself.
Limited liability:
Owners of limited liability businesses only hold liability for the amount that they invest and their personal assets are entirely separate from the business so are not at risk should the business fail. Investors are easier to attract due to the protection available from this type of business set-up.
Conversely, there are complex tax, accounting and public filings to be taken care of as a limited company which means you will likely incur more expenses in hiring external auditors and accountants.
Making The Right Choice
When deciding on the business structure for your business, you need to take into account its size, the type of business that it is, how much liability you’re personally willing to take on and how easy you need it to be to raise capital or attract investors.
Accountants and business advisors are excellent people to run your ideas past. They will be able to help you to see the bigger picture, understand various tax efficiencies available to you under the business structure options available, and can also help you to set up your business correctly.
There is also plenty of information available at gov.uk for new business owners. Here you will be able to get a clear understanding on the taxes you will need to pay, reporting deadlines and auditing requirements.
For many, limited liability is the safest as it involves lower risk, it’s still important to look at the pros and cons of each option before making your decision to make sure you are following the right path that will make your business succeed.
