Types of UK entity – UK Company

The most commonly encountered corporate structures for overseas companies looking to enter the UK market are the UK company and UK Establishment.

A company is a form of business which is legally separate from its owners (shareholders) and managers (directors). This confers the status of being a ‘separate legal entity’ from the people who run it.

It is governed by the requirements of the Companies Act (and its own articles of association). It must make returns of information to Companies House. This information about companies is held on the public register, which is available for anyone to see.

Registration

The main UK legislation relating to UK corporate structures is the Companies Act 2006. The UK government agency responsible for the incorporation and registration of entities is the Registrar of Companies, and the company registry is commonly known as ‘Companies House’ http://www.companieshouse.gov.uk

A UK company must be registered at Companies House as part of the process of incorporation.

A UK company

The legislation governing the incorporation of companies in the UK is the Companies Act 2006. There are several different forms of company structures, but a foreign-owned subsidiary incorporated in the UK is most usually a company limited by shares.

When an overseas company incorporates a subsidiary company in the UK, the subsidiary is usually formed as a private company. However, incorporation as a public company may be more suitable when there is an intention in the foreseeable future to list the company’s shares on a stock exchange or offer its shares or debt capital to the public.

The choice of company’s financial year is entirely up to the company. The financial year in the UK is usually expressed by stating the year-end date; the most common financial year in the UK is the year-end 31 March (April to March). However, most international organisations choose the year-end 31 December (January to December) in order to keep it aligned with the financial year of the parent company or the whole group.

Registration of UK companies

The registration requirements are similar for both private and public companies. Registration documents must be submitted to Companies House for review and approval, prior to incorporation being effected.

The documents that must be filed at Companies House are:

  • The proposed constitution (memorandum and articles of association) of the company.
  • A statutory registration form providing, among other things, the proposed name of the company, the proposed company type, principal business activity, the registered office address, details of the first officers i.e. directors and company secretary (if any) and the statement of capital including the initial shareholding & the details of the shareholder(s). People with significant control (PSC) details; from June 2016, the identity of any individual(s) with significant control (whether direct or indirect) over the company in order to disclose, for transparency purposes, who controls the company or, ultimately, the wider corporate group that it sits within.

On registration, Companies House issues a certificate of incorporation, showing the company’s registered name and its company number (also called registration number). The company is then formally incorporated.

Continuing obligations of a UK company

Once registered; the company is subject to various ongoing obligations. These include requirements to:

  • Maintain certain statutory registers (for example, a Register of Directors).
  • Maintain a registered office.
  • Notify Companies House of any statutory changes, including the appointment/resignation of directors, changes in their personal details, issues of additional shares and changes to the company’s constitution or company name.
  • Submit an annual Confirmation Statement to Companies House (containing, among other things, details of the company’s registered office address, principal activity, its directors, share capital and shareholders). Note that the Confirmation Statement has replaced the Annual Return with effect from June 2016.
  • Prepare and submit annual Statutory Financial Statements (accounts) to Companies House. The form and content of the Statutory Financial Statements will be determined, among other things, by the status of the company (whether private or public), the scale of its operations, the corporate group it is part of, the nature of its activities and any associated regulatory requirements.

UK companies also have ongoing obligations to the UK tax authorities. Please see the UK taxation section below for details.

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UK TAXATION

In the UK, the most important taxes are:

  • Corporation tax on profits
  • Value Added Tax (VAT), which is a sales tax
  • Pay As You Earn (PAYE) and National Insurance Contributions (NICs)

PAYE is a tax on the earnings of employees. It is deducted from pay by the employer, and paid to the tax authorities. NICs are social security payments, payable by employees and employers to the tax authorities. NICs payable by employees are deducted from pay by the employer, together with PAYE income tax, and paid to the tax authorities.

Corporation tax

The rate of Corporation Tax in the UK is between 19% and 25%, depending on the profits. Companies pay corporation tax on their taxable profits. Taxable profits are based on the company’s reported profit in its annual financial statements, but with some adjustments. These adjustments could relate to one or more of a number of UK tax incentives – for example, to support innovation or encourage investment in capital assets.

Capital gains arising from the disposal of capital assets at a profit are subject to tax, assuming an exemption does not apply, at the same rate as trading profits, and this tax is included within the overall computation of corporation tax payable to HMRC.

Useful introductory information about UK taxes is available on the HM Revenue & Customs (HMRC) website, at: https://www.gov.uk/business-legal-structures/limited-company and at https://www.gov.uk/government/organisations/hm-revenue-customs/services-information

Liability for corporation tax

Corporation tax is payable on the worldwide profits attributable to the UK company, but with adjustments. the UK has double taxation agreements with many countries.

Companies pay corporation tax on all business trading activities, including the income from sales, sale of assets, rental of property or land, and from savings deposits. Companies must retain their tax records for a minimum period of six years, and these records include invoices, receipts, calculations and any other tax-related information.

Corporation tax filing requirements

A UK company must provide HMRC with certain initial information within three months of starting up in business.

A corporation tax return must then be submitted to HMRC annually within 12 months of the end of the company’s financial year. Returns must be filed electronically, with statutory financial statements submitted in Inline Extensible Business Reporting Language (iXBRL).

The corporation tax liability of smaller companies must be paid within 9 months from the end of the company’s financial year. For larger companies, corporation tax is payable in quarterly instalments and the first payment is made before the end of its financial year.

HMRC charges penalties for late filing and interest on overdue amounts.

PAYE and NICs

The UK operates a tax withholding system called PAYE. It is the employer’s or UK host employer’s responsibility to report PAYE information, as well as deduct tax from the employee’s income and remit the funds to HMRC.

In addition, certain ‘benefits’ enjoyed by the employees are subject to income tax, such as the private use of a company owned car and company payments for private medical insurance. In addition to the annual statement of gross pay and tax deducted (P60) the employer must also provide the employee with a statement of the benefits provided from which tax was not deducted, as notified to HMRC on the P11D.

The employer and tax affairs of migrant workers
When an organisation is planning to set up a UK company, it will have to deal with various issues relating to migrant workers. Issues to consider are:

  • Compliance with PAYE and NIC requirements.
  • Securing cost efficient accommodation and salary arrangements for the employee.
  • Issues relating to visitors to the UK on business visitor visas, and ensuring that the work they do in the UK is permitted by the visa regulations.
  • The tax implications of assignments of non-UK residents to carry out work in the UK.
  • Supporting the employee by providing information to enable them to submit an annual personal tax return to HMRC.

VAT

VAT is the UK’s sales tax. Goods and services that are subject to VAT are known as taxable supplies. Non-taxable supplies may either be VAT exempt or outside the scope of UK VAT.

The VAT rate applicable depends upon the goods or services you supply. The standard rate in the UK is currently 20% and is applied to most taxable goods or services.

Registering for VAT

A business must register with HMRC if the value of its sales of taxable supplies exceeds a minimum threshold level. This level is currently £85,000 in any 12 month period.

  • A business must register for VAT if at any time it expects its taxable supplies to exceed the threshold in the next 30 days alone. In addition, due to a special rule called the reverse charge, a business can exceed the threshold as a result of services bought in from suppliers outside the UK.
  • A business that has not exceeded the threshold (and is not required to register) may register voluntarily for VAT.
  • Where it is known that taxable supplies will be sold at some point in the future, it is possible to register as an ‘intending trader’. This will enable the entity to recover VAT on purchases made wholly for business use.

Charging VAT on sales
Businesses that are registered for VAT must charge tax on the taxable supplies that they sell, at the appropriate rate. The standard rate of VAT is currently 20%, but some goods and services are taxed at a different rate.

Reclaiming VAT on purchases
Businesses registered for VAT may also reclaim the VAT that they have paid on purchases of taxable supplies from other VAT registered businesses. However, if the business makes exempt supplies there is a restriction on the amount of VAT on purchases that it can recover.

Other tax considerations

Transfer pricing
UK transfer pricing rules require that transactions between affiliates (such as an overseas parent company and its UK subsidiary company) should be conducted on an arm’s length basis. This means that the pricing of transactions between them should be the same as if the two affiliates were completely independent from each other.

The rules equally apply to UK-UK transactions.

Where transactions between affiliates are not made on an arm’s length basis, an adjustment to the prices may be required for corporation tax purposes.

Base erosion and profit shifting (BEPS)
Base erosion and profit shifting (BEPS) refers to corporate tax planning strategies used by multinationals to “shift” profits from higher-tax jurisdictions to lower-tax jurisdictions, thus “eroding” the “tax-base” of the higher-tax jurisdictions. The Organisation for Economic Co-operation and Development (OECD) define BEPS strategies as “exploiting gaps and mismatches in tax rules”.

The Base Erosion Profit Shifting (BEPS) regime was the international communities’ response. The outcome of the Action Plan included changes to international tax rules, such as Double Tax Treaties and the OCED’s Transfer Pricing Guidelines, and also recommendations from the OECD for tax legislation that should be adopted by countries in their national tax law.

In the UK we have seen a number of new measures introduced. However, to properly comply with the new rules, it often requires detailed knowledge of the overall group position, including how other group members (both UK and overseas) treat certain items for tax purposes. For a UK subsidiary, this information is often not readily available and we still see examples where the new rules are not being fully applied. This can result in additional tax costs, interest and penalties. Most common examples areas are: Corporate Income Restriction, Hybrids, Transfer Pricing, Country-by-Country Reporting, Publishing Tax Strategy & Senior Accounting Officer.

UK Subsidiary Company vs UK Permanent Establishment (Branch)

Broadly, a permanent establishment (branch) is an extension of the overseas company, while a subsidiary company is a separate legal entity and therefore carries less risk towards the parent company. Let’s look at some of the differences between the two.

  • Registration: Both a permanent establishment (branch) and a subsidiary company require registration with the UK authorities.
  • Filings: An overseas company may prefer the relative anonymity of a subsidiary company as it is only required to file its own annual financial statements whereas a permanent establishment (branch) is required to file the financial statements of the overseas company.
  • Closing the business: If a permanent establishment (branch) proves unsuccessful it is automatically closed when its trade ceases. On the other hand, closing a subsidiary company involves a few more steps.
  • Tax Considerations: From a tax perspective, a permanent establishment (branch) will only be subject to UK corporation tax on the portion of its profits. A subsidiary company is subject to UK corporation tax on its worldwide profits.

The choice between a subsidiary company and a permanent establishment (branch) will ultimately depend on practical factors (separate legal entity, visas, bank accounts etc.) and commercial factors (general ease of interaction with other UK businesses, scale of planned operations etc.). From a tax and filing requirement perspective, there are certain differences between the two structures but often these do not outweigh the other considerations.

Other tax considerations

  • Own legal entity in the UK – so more autonomous
  • Perceived as having more substance than a permanent establishment (branch) as they are wholly governed by UK law
  • UK company has limited liability so can be ring fenced from overseas parents
  • Relatively easier to engage in legal arrangements and open bank accounts
  • Closure time can be 3-6 months or longer
  • More reporting requirements and procedures

Other tax considerations

  • Not a separate legal entity
  • Perceived as having less substance than a subsidiary company as they are not wholly governed by UK law
  • Overseas parent company liable for obligations and liability
  • Difficulty in engaging in legal arrangements and opening bank accounts
  • If unsuccessful, can be closed without formal notice
  • Requirement to file financial statements of the parent company

Director of a UK company – The seven general duties

There is no comprehensive definition of a director in statute, but, in essence, it means a person who (together with the other directors who form the board of directors) is responsible for the management of a company. The term “director” includes any person occupying the position of director, by whatever name called.

Calling someone a “director” does not make them a director for company law purposes, but may be relevant in determining whether or not they are, in fact, a director. A person may be appointed as a director in accordance with provisions in company law (an appointed director), may be a director through acting as one (a de facto director) or may be treated under company law as a director if exercising the requisite influence over the board (a shadow director).

A UK company must have at least one director. At least one director must be a natural person (as opposed to another company, known as a “corporate director”).

Directors have seven general duties under the Companies Act 2006. These duties, under CA2006 s170-181, are owed to the company and, with limited exceptions (principally, derivative claims by the shareholders), only the company can enforce them. Other rules of company law may also apply, including a duty for directors to consider or act in the interests of creditors.

To act within powers

The powers of directors are contained in a company’s constitution (i.e. broadly, its articles of association). Directors must act in accordance with the constitution and only exercise their powers for the purpose for which they are conferred. It is therefore important that directors are familiar with their company’s constitution. The constitution may entitle shareholders to direct directors to take (or not to take) any specific action. The shareholders also have certain powers under company law (for instance, to change the constitution and to appoint and remove directors).

To promote the success of the company for the benefit of its members (shareholders) as a whole

This duty is often referred to as the “s172” duty.

In promoting the success of the company, directors must have regard to the following:

  • the likely consequences of any decision in the long term;
  • the interests of the company’s employees;
  • the need to foster the company’s business relationships with suppliers, customers and others;
  • the impact of the company’s operations on the community and the environment;
  • the desirability of the company maintaining a reputation for high standard business conduct; and
  • the need to act fairly as between members of the company.

The duty is, however, a single duty owed to the company to promote success for the benefit of the members as a whole. The directors must decide, using their own business judgment in good faith, what is most likely to promote the success of the company and what weight to give to each of these factors.

Large companies must explain in their strategic report how the directors have had regard to the matters listed above when performing their duty to promote the success of the company.

GC100 have provided detailed practical guidance on directors’ duties and stakeholder considerations under s172 CA2006.

To exercise independent judgment

Directors are required to act independently, without subordinating their powers to the will of others. They may obtain advice, but must exercise their own judgment on whether or not to act in accordance with it.

To exercise reasonable care, skill and diligence

In carrying out their responsibilities, directors must exercise reasonable care, skill and diligence. This involves a minimum objective standard of what would reasonably be expected generally of someone performing the director’s functions. This is supplemented and raised by a subjective standard that takes into account the general knowledge, skill and experience that the director actually has. Under the objective test, more might be expected of a director with an executive function (particularly a specific function such as finance director). Under the subjective test, more could be expected of a director having specific relevant knowledge, skills and experience.

Directors should be sufficiently familiar with the company’s affairs, including its financial position, to meet their responsibilities for the management of the company’s business and should ensure that they have relevant information for this purpose. The amount of time that directors may be expected to devote to the company will depend upon the circumstances, for instance, whether directors are executive directors or non-executive directors.

To avoid conflicts of interest

Directors must avoid any situation in which they have, or can have, a direct or indirect interest that conflicts or may conflict with the interests of the company (for instance, an interest in a competing business). This duty may apply to a variety of situations (including in relation to cross-directorships in a group) but does not apply to transactions with the company (where separate requirements apply – see section 7 below). The duty applies, in particular, to the exploitation of any property, information or opportunity, regardless of whether the company could actually take advantage of that property, etc. This continues to apply to former directors in relation to matters they become aware of when a director. The requirement does not apply where the matter has been authorised by the directors in accordance with the constitution and without the vote of any conflicted director being counted.

Not to accept benefits from third parties

This is a broad and strict duty which prevents a director from accepting a benefit from a third party conferred by reason of the director being a director or doing or omitting to do anything as director. It would include, but is by no means limited to, taking bribes. A third party is any person other than the company (or other companies in its group) or a person acting on behalf of the company (or other company in its group). The duty continues to apply to former directors in relation to acts or omissions when a director.

To declare interests in transactions or arrangements with the company

If a director is in any way directly or indirectly interested in a proposed transaction or arrangement with the company, the director must declare the nature and extent of the interest to the other directors and this declaration must be made before the company enters into the transaction or arrangement. A director need not declare an interest in some cases (for instance, if the other directors are, or ought to be, aware of the interest). Where a director becomes, or ought reasonably to become, aware of an interest arising after the company has entered into a transaction or arrangement, the director must declare it as soon as is reasonably practicable. The constitution of a company typically includes further provision as to how relevant conflicts of interest should be managed, for instance, regarding voting on proposed relevant transactions.

What is company law and a company’s constitution?

Company law

A company is a type of artificial person. It can, for instance, own property, employ people, buy and sell goods and services and enter into contracts generally and owe money. It can sue and be sued. It is legally separate from its owners.

Companies Act 2006 is the primary source of company law in the UK. It enables companies to be created, provides a framework for their constitution and contains various requirements, including for responsibilities of shareholders and directors. In addition to this:

  • certain other statutes are relevant, including IA1986 (concerning insolvency of companies) and CDDA1986 (concerning disqualification of directors);
  • statutory instruments (or “regulations”) made under statutory powers supplement statutory provisions. A large number of statutory instruments supplement CA2006, including on accounting matters; and
  • aspects of company law are determined by common law (i.e. resulting from decisions of the courts). In particular, the statutory provisions on general duties of directors owed to the company largely codified (or “consolidated”) earlier common law provisions and are to be interpreted with regard to relevant common law.

Company’s constitution – Memorandum and Articles of Association

A company has a constitution that sets out rules that directors and other officers must follow when running the company. A company can operate only through living individuals (e.g. its directors or their delegates).

The constitution of a company is comprised of its “Articles of Association” (often referred to simply as “the articles”) and resolutions or agreements affecting them. Older companies also have a further constitutional document called a Memorandum of Association, which sets out some of the core features of the company, including its objects. Most provisions in an old-style memorandum are now treated as part of the company’s articles. By contrast, the modern memorandum of association is a very short document required on formation and has little ongoing significance, constitutional or otherwise.

There are standard (or “model”) forms of articles for UK companies, but their use is not mandatory and changes may be made to the model when the company is formed (or afterwards, for instance, by resolution of the shareholders). The model form articles provide the following:

  • The directors are generally responsible for the management of the company’s business and may exercise all the powers of the company.
  • The shareholders may, by special resolution, direct the directors to take (or not take) specified action.

The model form articles cover many other issues, including: powers of delegation, decision making by directors, administrative matters, conflicts of interest, records of decisions, number of directors, appointment and termination of directors, directors’ remuneration, directors’ expenses, dividends and other distributions, capitalisation of profits and insurance.

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