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Under English company law, there are a few different kinds of companies. By far, the most familiar and popular structure is a company limited by shares. Another less common company is a company limited by guarantee. In effect, a company limited by guarantee treats the liability of its shareholders differently than a company limited by shares. This article will explain what a company limited by guarantee is and consider whether this company structure is relevant for your business.
Understanding Limited Liability
One of the principal benefits of trading through a company is that the company usually provides its owners (the shareholders) with limited liability.
Limited liability means that the owners are not fully liable for the company’s debts and obligations if the company cannot meet them. This differs from other business structures, like sole traders and general partnerships, where the owners are personally liable for business debts.
Extent of Limited Liability
To understand how companies limited by guarantee limit their shareholders’ liability, it is first helpful to look at how companies limited by shares operate.
Companies Limited by Shares
The law says that shareholders’ liabilities for the company’s debts are limited to the value of the number of shares they hold. This is calculated by reference to the full share price the company allots the shares for. Consider some examples.
| 123 Ltd issues four shareholders 10,000 shares each at a nominal value of £1 per share. | The full share price here is £1 per share. Therefore, each shareholder is liable for the company’s debts up to £10,000. |
| 123 Ltd later issues one shareholder 10,000 shares, but this time at £2 per share. | A company may issue shares at a premium price relative to its nominal value. This happens when a company is more valuable than reflected in the nominal share price. In this case, the new shareholder’s liability is £20,000. |
Importantly, the extent of your liability as a shareholder in a company limited by shares depends on the full value of the shares. This is relevant because sometimes, a company may issue shares before receiving payment. Alternatively, the company may issue shares at a discount. In a subsequent event where the company cannot pay its debts, the law can compel the shareholder to pay upon demand the full value of the shares.
Companies Limited by Guarantee
When a company limited by guarantee comes into existence, its founders (i.e. the “shareholders”) contribute a minimal sum to the company’s liabilities in the event the company later cannot pay its debts. The company’s incorporation documents would typically note this contribution.
Importantly, companies limited by guarantee have no share capital. That is why you may hear others refer to the company’s owners as members rather than shareholders. Instead, any creditor to the company can inspect the company’s “statement of guarantee” on Companies House. This will confirm the amount up to which the members guarantee the company’s debts.
For instance, suppose the statement of guarantee states that the sum of each member’s liability shall not exceed £10 per member. If there are 50 shareholders, the maximum liability of all the shareholders together is £500.
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Purpose of Companies Limited by Guarantee
By and large, companies limited by guarantee are not suitable for commercial trading. This is because the company does not have any share capital it can use to fund its working capital requirements. Accordingly, creditors are far less likely to transact with a for-profit company because there may not be sufficient assets to meet the creditors’ liabilities.
Instead, companies limited by guarantee are suitable for non-profit organisations, such as certain trusts, clubs, and benefits. For similar reasons, many public entities and trade and research associations operate as companies limited by guarantee.
Additionally, residential property management companies commonly use companies limited by guarantee to get around certain logistical problems that arise when one person sells their interest in the freehold to another and the legal owner is the company.
Legal Considerations
Certain restrictions apply to some companies limited by guarantee, which do not apply to companies limited by shares. These are often technical points of law. For example, if the company operates as a charity, you must not state any non-charitable purpose in your company’s objects (if you intend to restrict your company’s objects).
This template refers to the minutes of the first meeting of the directors of a Company.
Key Takeaways
A company limited by guarantee is an alternative form of a company. It stands in contrast to the far more common company limited by shares. The distinction relates to how the law treats the company’s owners when it comes to the company’s liabilities, including financial debts. Companies limited by guarantee do not have shares, which is how liability is limited for companies limited by shares. Instead, the liability is limited by the amount stated in the statement of guarantee. For various reasons, companies limited by guarantee are not suitable for businesses.
If you need help understanding the best way to structure and set up your company, our experienced corporate lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us at 0808 196 8584 or visit our membership page.
Frequently Asked Questions
Since a company limited by guarantee does not have any share capital, it has no shares. Therefore, its owners are not called shareholders. Instead, the law refers to them as members.
The doctrine of maintenance of share capital restricts the ability of a shareholder to demand a return on the value of the money they transferred to your company in exchange for shares.
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