How government is failing the UK's limited company directors

Just six years ago, setting up your own limited company wasn’t just encouraged, it was celebrated. Incentives were designed in the UK’s tax system to encourage those with an entrepreneurial drive to turn their idea or fledgling business into a more established business venture.

Quite rightly, government recognised the vital economic and societal contribution of these businesses. Many were at the heart of projects that delivered cutting-edge advancements in science and technology or crucial support for the functioning of national infrastructure and government.

But somewhere along the line the so-called party of business drastically altered this outlook. Government began gradually eroding the benefits of running a limited company, instead favouring a pursuit of payrolled employment – regardless of the real-world consequences.

Today, many limited company directors likely see no benefit of operating in this way. Ultimately, it’s UK PLC and the wider economy that suffers from the collapse of one-person limited companies; so why can’t government realise this?

The Spring Budget did little to endear company directors

Whilst the National Insurance cut provided some relief to employees and sole traders, it’s a cut that specifically overlooks the work of the UK’s company directors, who have been ignored again by the Chancellor.

For a more comprehensive look at how the Spring Budget will affect the self-employed, we put together a piece on this last week.

Almost all directors have seen their income taxed more heavily in recent years, often paying increasing levels of corporation tax and dividend tax, whilst personal allowance and dividend allowance thresholds remain frozen.

The diminishing attraction of dividends

Historically, running a limited company quite literally paid dividends. Company directors were able to draw dividends and benefit from a tax-free allowance; this was considered an important advantage to incorporating, but with government slashing the allowance by 90% since 2017 – from £5,000 to just £500 today – many now ask the question: ‘why bother?’

Surely, we should be trying to encourage more entrepreneurs to establish their own business? Especially when the UK’s stagnant economy is in dire need of innovative dynamism. Instead, government seems hellbent on disincentivising genuinely creative business solutions that would significantly aid clients and the wider economy.

Frozen thresholds dragging directors into higher tax bands

Just like employee counterparts, company directors are contending with the freezing of income tax thresholds. Frozen thresholds increase people’s taxable income without incurring the political cost of nominally raising taxes – a phenomenon known as fiscal drag – which results in more taxpayers paying tax at a higher rate.

The UK’s income tax thresholds have been frozen since April 2022, with the Chancellor confirming this will remain the case until April 2028.

These thresholds have been left unchanged since April 2022 after the Chancellor increased the rate at which dividends are taxed.

IR35 forcing limited companies out of business

The impact of IR35 has been so devastating on the proliferation of single person companies that one wonders if that was the true aim of the policy.

Notably, we know from IPSE’s research that almost two-fifths of company directors in the UK were forced to close their limited company due to the introduction of the IR35 reforms in the private sector.

Taking a look at the way these rules work in practice would be an obvious starting point for a government that should be embracing it’s smallest businesses. Instead, the lack of a reaction from policymakers to the demise of these owner-operated businesses implies a sense of contentment on their part.

Enticing workers back to the labour market

It’s no coincidence that the back to work drive hailed by the Chancellor is having the opposite effect with economic inactivity and unemployment now rising again.

Thousands of company directors have left the labour market altogether after being forced to close their business down or seeing no incentive to continue working in this way.

Whilst the government will likely cherish the fact that some of these have now become employees or quasi-employees via umbrellas, it’s the exodus of typically older former company directors that we should be particularly concerned about.

Enticing this cohort back to the labour market is absolutely fundamental if the UK is to fulfil its economic potential and IPSE will continue to make this case to policymakers and any future government.