Every entrepreneur faces many decisions at the very beginning of their business journey that will determine the direction of their future development. One of the key steps is the choice of the legal form of the business. The entrepreneur considers whether to start as a self-employed person or to jump straight into a limited liability company (Ltd.). Most entrepreneurs choose the simpler route at the beginning - self-employed, mainly because it is less administratively demanding. Over time, most commonly as the nuber of clients grows, with increasing demand for their products or services and the need to build a brand, some switch to an LLC.
The transition between these forms is not the easiest period in the life of an entrepreneur, so it is important to think about the consequences of the choice and also about all the options how to manage the process of transition from a self-employed person to a limited liability company. The entrepreneur should know the advantages and disadvantages of each option. When making the decision, he or she should not overlook the important tax and accounting differences between a self-employment and a limited liability company, which can then significantly affect his or her business.
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From a legal point of view, there are three variants of transferring or transferring a business from a self-employed person to a limited liability company.
The first option is to set up a limited liability company, into which you invest your entire business establishment of the self-employed person as a shareholder's contribution to the share capital. This contribution will increase the share capital of the company (by the value of the business establishment), which you see registered in the commercial register. This will also increase the value of your share in the company. Only a shareholder of the company can make a contribution.
A business establishment is a collection of capital created by an entrepreneur, whether an individual or a legal entity, for the purpose of carrying on its business. It is therefore both assets and liabilities (e.g. inventories, receivables, payables and fixed assets).
In order for a business establishment of a self-employed person to be included as a deposit, it must be valued by an expert. Depending on the size of the establishment, the appraisal will cost you approximately CZK 30,000 excluding VAT. After the appraisal, the business establishment can be incorporated into a limited liability company as a non-monetary contribution.
However, this method of transition from a self-employed person to a limited liability company is more time-consuming and financially demanding.
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The advantage of this method is that the continuity of business towards all partners, employees, customers or other interested parties is ensured thanks to the continuous incorporation of the business establishment into the share capital. As of the date of formation of the new limited liability company, all rights and obligations of the self-employed person, including commercial, credit and employment contracts, are transferred to it.
The limited liability company itself does not have to pay anything for the business establishment provided to the self-employed person who will be a shareholder in the limited liability company. The same applies to the self-employed person, where the contributions to the limited liability company do not constitute taxable income for the depositor, but only increase the so-called acquisition price of the share in accordance with the Act of Income Taxes.
A more advantageous alternative to the contribution of a business establishment to the share capital of a company, especially with regard to the costs of notaries, is the contribution of a business plant to a limited liability company in the form of an additional contribution outside the share capital of the company. Even in this case, you will then have to have it valued by an expert. However, you do not need a notary to make the contribution. A shareholder can make a contribution outside the share capital with the consent of the managing director of the limited company.
As in the case of a capital contribution, this method is tax neutral for both parties. For the shareholder, it means an increase in the value of his share, while the company gets its own assets.
The last option is at first sight the easiest and cheapest, as it does not require the cost of an expert or other expert. There is no need to deal with the purchase price or to sign any contract between the self-employed person and the limited liability company. This procedure consists in the parallel business of both entities, where the self-employed person establishes a new limited liability company and starts doing business under its head, concluding new contractual relations or trading. However, the self-employed person is still registered in the Trade Register under his original business registration number, under which he continues to run his business in parallel with the new limited liability company, collect debts against his debtors, complete contracts and pay his debts.
This regime lasts until the balance of trade of the self-employed approaches zero. After that, the self-employed person ceases to be self-employed and continues to do business only within his/her limited liability company.
The disadvantage is that the continuity of the past business of the self-employed with the business of the limited liability company is not preserved. Therefore, there is no transfer of liabilities and receivables. Nor can assets be easily transferred from the self-employed person to the limited liability company in a single transfer.
If the entrepreneur chooses the first or second option, the main advantage is that the transaction is not subject to VAT at all. In order to prevent the VAT-free assets from reaching the non-taxpayer in this way, the acquirer (the limited liability company) becomes a VAT payer by law upon acquisition of the assets.
From a taxation perspective, it is not possible to determine the most favourable option at first glance. It is necessary to individually assess the specific business, including the future intention of the entrepreneur, compile more precise figures and only then decide which option will be more tax advantageous.
The biggest difference between a self-employed person and a limited company is in the expense lump sum. While a self-employed person can apply expense lump sum in the range of 30-80%, a limited liability company must always keep accounts. Applying an expense lump sum is administratively much simpler. However, if the self-employed person does not use the expense lump sum and is also a VAT payer, the administrative burden (and the level of taxation) is practically the same as for a limited liability company.
If the self-employed person has only one part-time employee, then the complete personnel agenda, including work categorization, hygiene, noise measurement and, of course, the payroll agenda, which is really complicated in the Czech Republic, falls on him.
In both examples, the tax base is calculated as the difference between income and expenses. The income tax rate for an limited liability company is 19%, while for a self-employed person it is 15%. The subsequent payment of the profit share from the limited liability company is then subject to a withholding tax of 15%. Both types of business may apply different tax credits, deductible items or tax-free bases.
Managing accounting and general administration around a limited liability company is more demanding. In most cases, self-employed persons record their income and expenses through tax records with the application of expense lump sum. In contrast, an LLC must keep accounting records. However, this makes it possible to keep better and more accurate track of how the company is performing.
When choosing a form of business, the way in which remuneration is paid is key for many entrepreneurs. And there are significant differences.
Simply put, the self-employed person is free to dispose of his or her taxed income in any way he or she wishes. If it pays all its obligations to suppliers and the state, it can keep the rest of the free funds.
On the other hand, a limited liability company must keep strict records of all its financial transactions. If a shareholder of a company (entrepreneur) wants to get money from his/her LLC, he/she has the following options:
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Each of the variants of the transition from a self-employed person to a limited liability company has its own specifics, advantages and disadvantages.
If a self-employed person decides to transfer his/her business to a limited liability company, he/she must take into account the tax burden. Income of a limited liability company is taxed at 21% and if profits are paid to a shareholder, there is a withholding tax of 15%. Furthermore, a limited liability company cannot benefit from expense lump sums or be classified as a self-employed person.
The self-employed person will also be interested in the flow of money from the company, i.e. to the individual who is, in most cases, the managing director of the limited liability company. This can be dealt with in three ways, each of which has its advantages and disadvantages.