The clue to understanding self-employed vs limited company

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The first question that a future client asks us when starting a business is: what is better, to begin my activity as a self-employed vs limited company? If the business is going well, after a year, he asks: do I have to change from self-employed to SL? When a business is doing well, the question arises as to whether we are paying too much to the tax authorities and whether we would pay less if we were a company. Everyone wonders: where am I better off as a self-employed vs limited company? As Pau Donés used to say: It depends.

To set up as a self-employed vs limited company?

Since always the typical reasons for a person who has a business to register as self-employed or SL are: a self-employed person is responsible for all debts, and in a company, the partner is only reliable for part of his shares. Another argument is that the tax rate in the partnership is always the same, and the self-employed person pays more if they earn more.

The choice of the legal form in which the professional activity will be carried out will not only depend on tax aspects or liability criteria.

Before starting a business, it is essential to know what are the advantages and disadvantages of being self-employed or having an S.L. and what is the best form that suits your needs.

We raise the question of self-employed or Sl from the beginning before you activate your activity and register the project you have in mind. For example, if you are going to develop the activity alone, from scratch and with uncertainty, it is better to register as self-employed.

Here we give you the keys to creating a self-employed or milted company.

When should you change from self-employed to a Limited company.?

Do you have doubts about setting up a company or registering as a self-employed person? When should you change from self-employed to a limited company? ? To make this decision, as is always the case when we have to make an important decision, we must have the necessary information and, through this information, be able to gauge the advantages and disadvantages of each of the two options.

Don’t worry, many clients ask us when they should change from self-employed to a limited company.

No rule says when it is compulsory to change from self-employed to S.L., and it is necessary to study each case on a case-by-case basis.

But in general terms, a criterion can be established whereby if you estimate that your profits for the year will exceed €40,000 and that the performance of your activity will involve large bank loans or financial risks, the most appropriate option is to set up a limited company.

Now that you know when it is best to change from self-employed to a limited company, let’s look at the main advantages of a limited company compared to a self-employed person so that you know whether it is better to register as a self-employed person or as a limited company.

What are the advantages and disadvantages of being self-employed vs a limited company?

Advantages of registering as self-employed

Registering with the Inland Revenue as a self-employed person and registering with Social Security is easy, quick and inexpensive.
You have complete control of the activity; nobody tells you what to do with your business.
All the money you have left after paying taxes is yours.
At the administrative level, it is easy to handle the paperwork.

Disadvantages of becoming self-employed

As a self-employed person, you are liable for the debts of your business with your current and future assets, but what does this mean? If you have obligations of any kind in the industry, you must pay them out of your pocket.
VERY IMPORTANT: This year, 2023, you will start paying social security contributions on your income. If you earn a lot, you will pay a lot; if you earn little, you will pay little. But your interest is to earn a lot, isn’t it?
You are taxed in the IRPF (personal income tax), and you indeed have some deductions as an individual, but in general, the more you earn, the more you pay. The key in the tax aspect is to find the balance between the rate you pay in the IRPF and the percentage you would pay in the corporate tax.
You can’t include partners or people who bring money into your business. You are on your own.

What are the advantages and disadvantages of limited companies?

Advantages of setting up a limited company

Regarding the advantages of setting up a limited company as opposed to a self-employed person, the main advantage is the protection of the partners’ personal assets against creditors and third parties, including social security.

This means that if for any reason, you do not obtain the expected income from the company, you will only be liable for the debts contracted by the company in the share capital that you have contributed to the company, leaving your personal and individual assets safe.

If you contribute €1,500, you are liable for €1,500.

WARNING:

The company’s administrator(s) are jointly and severally liable for the debts with the tax authorities and social security.

It should also be noted that, in the same way that setting up an SL has more advantages from the point of view of liability towards third parties, this legal form also entails a higher initial outlay.

In 2023, some things have been streamlined to set up a company. As of 2023, it is no longer necessary to deposit €3,000 in share capital, and the incorporation deadlines have been shortened. For example, before 2023, the registers had 15 working days to register your company. Now you have five working days to register a company.
Note that although you no longer have to deposit €3,000 of share capital, you, as a shareholder, will still be responsible for that €3,000. That is, you do not have to contribute the €3,000 but are still liable for debts up to €3,000.
If you are going to set up your business with more partners, it is better to start with a partnership. Each partner will have clear rights and obligations and will be assured of his or her shares.
When it comes to distributing the company’s assets, you can do so via a capital reduction, which only pays 1%.

Limited companies have more tax advantages than self-employed people, although it is also true that they entail higher costs.

If you are considering setting up a self-employed vs limited company, another of the advantages of creating a company is that the entrepreneur can adjust his salary to the genuine consumption needs he has at any given moment. That is to say, the partner or administrator can pay the salary he/she wants, and the company will pay his/her withholdings. This is important with the new contribution system for self-employed in Spain for 2023.
A company has a better business image. It is true a self-employed person is alone, but a company is like a company that gives more confidence and a better image. Human beings have always been very sensitive to trust and security in business; a company gives more confidence and security. However, we know from experience that this is not always the case.
As a rule, a company has more than one partner and shares the responsibility. When it comes to borrowing money, it also shares the responsibility. Therefore, a company will have more chances to get the loan it wants.
A Limited company is subject to corporation tax, which is 15% of the taxable base during the first year it makes a profit and the following two years if your SL is newly created. After that, you will pay a 23% tax on the profit.

Disadvantages of setting up a company

Companies are incorporated in the presence of a notary, and the deed must be registered in the commercial register, which entails higher costs.
The company has its own life (technically, it is said to have legal personality), i.e. the money generated by the company belongs to the company, and to take money out of the company, you will have to pay tax via capital gains in the IRPF (personal income tax).
As a company has its own legal personality, you will have to declare every year corporation tax and present the annual accounts. Even if your company has no activity, you must file these declarations at a corresponding cost.
If your business is not doing well, it is easy to cease trading. But if you want to liquidate the company and have the company disappear so that you do not have any annual obligations, you will have to sign the liquidation and extinction of the company in a notary and register the liquidation in the commercial register with the corresponding costs and time. And if you want to liquidate your company, the company has to fulfil specific requirements:
- The company must not be in debt to anyone.
- You must wait at least one year before liquidating the company.
- The company’s liquidation must be signed in front of a notary, and the liquidation must be registered in the commercial register with the consequent costs.
The company has to follow the general accounting plan (with additional consultancy costs), but this can be an advantage or not.
If you want to take money out of the company through profit sharing, you will also pay IRPF tax via capital gains (between 19% and 28%). In other words, you pay on the profits and then pay again to take money out. It is like paying twice.

Self-employed vs Limited company? Criteria to take into account

If you will earn a lot of money from the first year, it is better to set up a company directly because you pay tax at 15% the first year you make a profit and the following two years.
Asesoria Orihuela Costa advice: If your business is small and you are starting from scratch and don’t know how you will do, it is better to register as self-employed. You will always be in time to create a company.
If you are going to have many employees, it is better to create a company. Managing staff is complex, and having your assets separate and safe from the business’s debts is better.
The profitability of remaining self-employed or changing to an SL does not only depend on the taxation of your business and the volume of profits. The choice of the legal form under which you will carry out your professional activity will not only depend on aspects such as cost or liability criteria.
If your company will have a lot of stock or goods, it is better to create a company.
If you want to give a more professional image and a larger structure, it is better to create a company.
If you are going to have several partners, it is better to create a company.
If your business will last long, it is better to create a company.

The important thing is to choose wisely so that the strong points are numerous and the weak points are minimised and have little weight. And above all, get good advice right from the start.

What steps must be taken to change from self-employed to a Limited company?

Spanish legislation does not contemplate this transformation, so the steps to be taken follow the same logic as if you were creating a new company.

Once the new limited company has been set up, all contracts, including those for bank financing or renting the premises in the name of the self-employed person, must be transferred to the company.

When changing from self-employed to SL, you will have to consider whether or not you will remain your company’s administrator in the new company.

It is advisable to transfer the equipment or machinery to the company by means of a non-monetary contribution, thus constituting the share capital.

Beware of creating a shell company to obtain tax benefits.

A mistake that many people make when deciding between a self-employed vs Limited Company is to set up a shell company:

A shell company is a company that is set up to pay less tax and does not usually have the status of a company.
A shell company is set up to defraud the tax authorities. And that is not the way.
The Tax Agency has long been monitoring shell companies, which are companies that are set up mainly to obtain tax advantages but also other benefits, such as limited liability.

Find out more about this issue so that you do not give the tax authorities the impression that you are setting up a shell company solely for invoicing your income as a professional or self-employed person through the company.