Business activity can be conducted by establishing either a company (Ltd.) or as a sole proprietorship. When considering the advantages of each type of activity, it's important to remember that forming a company enhances the business's reputation in the eyes of potential customers and also carries many other benefits. What are the advantages of incorporating a company, and what factors need to be considered when assessing the feasibility of establishing a company in Israel? Read on to discover all you need to know about the process of opening a company.
What is a limited liability company (LTD)?
A limited liability company (LTD) is an association of several individuals or one individual for the purpose of conducting business activities, usually for profit. A LTD is governed by shares, and the holders of these shares are called "company shareholders.
Who can open a limited liability company (LTD)?
Anyone - whether an individual or a corporation. According to Section 2 of the Companies Act, 1999 ("the Companies Act"), any person, including a corporation, is allowed to establish a company, as long as the company's purposes are not contrary to the law, are not unethical, and do not violate public regulations (for example, a company established for gambling or human trafficking). Want to be the sole shareholder in your company? No problem. As determined in case law [1], an individual has the freedom to conduct their business activities either as a sole proprietor or through a company, even if the company has only one shareholder (according to Section 3 of the Companies Act).
Opening a limited liability company (LTD) - Advantages
The dilemma of how to establish your business activity is challenging, especially considering the overwhelming amount of information available today. If you're contemplating setting up a limited liability company (LTD), it's advisable to take a deep breath and understand the following:
Generally, opting to establish a company over independent activity is a wise choice. Why? Because an LTD offers numerous advantages over a sole proprietorship (beyond its better positioning from a branding perspective):
- Significant savings on national insurance - An independent operator, operating as a sole proprietor, is required by law to pay national insurance and health insurance premiums on all income earned. In contrast, if you operate under an LTD, only the salary you draw will be subject to national insurance, while withdrawing profits as dividends will be exempt from this requirement.
- Lower income tax payments - An individual operating as an independent pays income tax according to fixed tax brackets based on their income level. The maximum marginal tax rate for a sole proprietor in 2017 is 50%, including an additional surtax of 2%. In contrast, the corporate tax burden is 48.55%, comprising a fixed corporate tax on taxable income at a rate of 26.5% and an additional tax of 30% on distributed profits. Is a mere 1.45% advantage? Not at all. Due to this tax structure, a company can defer dividend tax payments by retaining profits (and thus also avoid paying additional tax), while maximizing accumulated profits in the company for financing activities or additional investments.
- Will your company be held by a parent company or several companies? - Another benefit is that your company can distribute its profits as dividends to its holding companies without any tax liability. This way, you can leverage funds to invest in other companies within the group, not just the original company where the profits were generated.
- Tax rates work in favor of the company - In general, a company that does not distribute profits enjoys advantages in terms of tax liability starting from an annual income of approximately 300,000₪. For a profit-distributing company, such an advantage applies from an annual income of around 800,000₪.
Establishing an LTD as a separate legal entity
The advantages of opening an LTD are not only economic because according to the principle of separate legal personality, the shareholder of the company is legally protected (except in extreme cases). In other words, while in a situation where a sole proprietor accrues debts, they are personally liable for them, a registered LTD is essentially a new legal entity, independent, and with a separate legal personality. As such, it is also financially separate from its shareholders. In simple terms, if the company encounters financial difficulties and goes bankrupt, creditors - including tax authorities - cannot sue the shareholders (i.e., you) personally.
Beyond the branding and positioning advantages of your company, you can optimally and wisely exploit the individual tax brackets, transfer shares to another person, and if you decide to resign from your company, severance pay will be paid to you with tax exemption.
Incorporating a Company LTD: Costs
All these advantages lead to numerous tax and legal benefits when incorporating a company LTD. However, it is important to note that unlike a sole proprietorship, a company incurs additional expenses, including one-time expenses for founding the company, annual company registration fees to the Companies Registrar, and more. Additionally, the monthly bookkeeping costs are higher, but some of these expenses are deductible for tax purposes, making them less significant over the course of successful business operation.
How do you set up an LTD company?
In order to assess whether conducting business through an LTD company is advisable for you, various factors should be taken into account, such as the expected revenue, level of activity, required investment for success, availability of financial resources for ongoing management, location of operations (Israel/abroad), and more. Is your business international? It is recommended to consider the option of establishing a company abroad, especially in tax haven countries (such as Cyprus and BVI). This way, significant additional tax savings may be possible.
Registrar of Companies Unit - Company Registration
The process of opening a company with the Registrar of Companies is much less complicated than it may seem. First, it's important to know that the formal proceedings for opening and managing the company are conducted with the Registrar of Companies. If you've decided to open a company, you'll need to submit several documents to the Registrar:
- Application Form for Company Registration - This form includes essential details such as the company's address, objectives, authorized capital, and whether it is limited by shares.
- Articles of Association - This document contains the company's name, objectives, registered capital, shareholders' liabilities, as well as the allocation of shares to initial shareholders. Additionally, the articles include general provisions outlining the number of directors required for a general meeting, among other things.
- Declaration of Initial Directors - Note that a company must appoint at least one director. During the establishment of the company, the initial directors must sign a formal declaration confirming their eligibility and readiness to serve as directors.
- Declaration of Initial Shareholders - In this declaration, shareholders affirm their eligibility to hold shares at the time of the company's establishment.
- Document Submission Form for Company Registration - This form includes contact details and three alternative company names in case the chosen name is not approved by the Registrar of Companies for any reason.
Shtainmetz Aminoach and Co. is a prominent accounting firm ranked among the top seven accounting firms in Israel. We serve as the Israeli arm of the global UHY network. Our team of experts is ready to assist, advise, accompany, and support you in all matters related to opening a company or other services. If you're looking for an accountant to set up an Israeli Private Limited Company, please contact us, and we'll be happy to serve you.
