In Serbia, a limited liability company (LLC) and a sole proprietorship are the two most popular business establishment methods. If you’re unsure about which form to choose and how to register your business as an LLC or a sole proprietorship, the following information will help you resolve your dilemma.
It’s important to note that LLCs and sole proprietors differ significantly; both business methods have advantages and disadvantages. To make the right decision, you need to understand the differences between LLCs and sole proprietors and their respective pros and cons.
We’ve highlighted key differences below to help you compare and determine which legal form suits your future business plans. You’ll be able to decide whether you’re just starting a business or considering transitioning from a sole proprietorship to an LLC, which is typical for IT companies in Serbia.
1.1. Advantages of Sole Proprietorship
# Simple Registration Process
- Registering a sole proprietor with the Business Registers Agency (APR) is more straightforward than registering an LLC. Less paperwork is required during the establishment process, making it a common choice for IT companies in Serbia at the outset.
- Registering a sole proprietor is less expensive than the registration fee for establishing an LLC.
- LLCs is obligated to create the founding act, while the sole proprietorship does not have this requirement.
- A sole proprietor designates the registered business location but can also have one or more additional premises within the territory of the Republic of Serbia, which must be registered.
- Other APR fees for sole proprietors are lower than those for LLCs (changes, removal from the business register).
# Simplified Administrative Procedure for Sole Proprietors
To improve lump-sum taxation, reduce costs, and increase efficiency, the administrative procedure for tax obligations of sole proprietors has been simplified:
- Sole proprietors are no longer required to submit tax return PPDG-1R or a request for approval of lump-sum taxation.
- When ceasing, interrupting, or resuming business activities after an interruption, they are not required to submit a tax return PPDG-1R with the basis for filing the return: code 3 (cessation of independent business activity), code 4 (interruption of independent business activity), code 16 (resumption of independent business activity after an interruption).
# Fixed Tax Payment
Sole proprietors pay their tax obligations in a fixed monthly amount until the end of the calendar year. In practice, they pay taxes based on a lump-sum income determination, irrespective of their monthly turnover.
A decision of the Tax Administration determines the amount, and the method of determining the tax follows certain criteria and statutory rates.
The tax rates and contributions are income tax 10%, pension and disability insurance (PIO) 24%, health insurance 10.3%, and unemployment contributions 0.75%.
# Authorization
A sole proprietor can delegate business management to another legally capable person (a manager) through written authorization.
They can also authorize an accountant to access the tax mailbox on the Tax Administration portal, which requires a qualified electronic certificate.
Although the administrative procedure for tax returns for sole proprietors is simplified, granting authority to a professional can be a good decision, especially when certain tax returns need to be filed, or electronic tax decisions need to be retrieved.
# Daily Cash Withdrawal Limit
Unlike other entrepreneurs or LLCs, sole proprietors can withdraw a certain amount of cash daily without justification. This is one reason why entrepreneurs choose to become sole proprietors. The daily limit is 150,000 dinars.
Sole proprietors who pay taxes on a lump-sum basis can withdraw up to 150,000 dinars from their business account daily without needing receipts. This is because they pay a lump-sum amount of taxes once a month. LLCs are required to justify the withdrawn money with cash receipts.
# Lump-Sum Tax Calculator
The Tax Administration portal provides a calculator for calculating lump-sum tax. It helps individuals who are future sole proprietors and freelancers subject to self-assessment predict their monthly tax liability after entering specific parameters.
The lump-sum tax calculator allows them to determine the tax payable by self-assessed entrepreneurs after setting the key elements necessary to decide on the tax obligation, which depends on the activity code.
# Monthly Engagement of an Accountant
Sole proprietors are not required to hire an accountant because they do not maintain business records. Sole proprietors are obligated to keep a simple book of income and expenses, issue invoices, and record them in it.
1.2. Disadvantages of Sole Proprietorship
# BusinessName
When registering a business name, a sole proprietor’s name includes their name and surname, business activity, legal form (PR), registered office, and a shortened name (not mandatory, but often included). In comparison to LLCs, the name is longer. LLCs only have the business name, legal form, and registered office in their name.
# Personal Liability
A sole proprietor is personally liable for all due and unpaid obligations. If they cannot meet their tax obligations, the responsibility extends to adult household members responsible for their assets.
# Turnover Limit for Lump-Sum Taxation
One condition for being a sole proprietor is the revenue limit, which is six million dinars. This limit pertains to the income generated during one calendar year (from 01.01. to 31.12.).
If the revenue surpasses this limit in one calendar year, the right to lump-sum taxation is forfeited. In such cases, the Tax Administration decides to continue business as an entrepreneur who keeps proper books. There is no turnover limit for LLCs concerning annual revenue.
# Independence Test
The independence test has been applied to sole proprietors since 2020. It consists of nine criteria to determine whether a lump-sum taxpayer is independent or dependent on the client they collaborate with.
The criteria for the independence test include:
- Working hours or annual leave and absence from work,
- Premises used by the sole proprietor for work,
- Professional development and education,
- Engagement after responding to a public job posting,
- Whether the client provides the essential tools, equipment, and resources for work,
- The sole proprietor earns at least 70% of their income from one client,
- Whether the sole proprietor assumes business risk and responsibility,
- Whether the contract includes a non-compete clause,
- The number of working days in a year.
The independence test does not apply to LLCs and business entities.
# Ineligibility for VAT
Sole proprietors subject to lump-sum taxation cannot be in the VAT system due to the method of determining tax obligations and the 6,000,000 limit. Value-added taxpayers (VAT) are entrepreneurs and LLCs who keep business records and generate revenue exceeding 8,000,000 dinars.
Sole proprietors can change their tax status in the next calendar year if they apply to enter the VAT system. If they exceed the 6,000,000 dinar limit, they are obliged to keep proper books and can then become VAT payers, but it is not mandatory.
However, they immediately become VAT payers if they exceed 8,000,000 dinars in business revenue in a calendar year.
# Annual Personal Income Tax
As individuals registered for business activities, sole proprietors must pay personal income tax in the current year if they earn income exceeding six times the average annual salary in the previous calendar year. This income is taxed at a rate of 10%. LLCs do not pay personal income tax; instead, they pay a different type of tax – a 15% dividend tax.
# Lack of Expert Advisors
Sole proprietors are recommended to collaborate with accounting agencies to receive tax, legal, or accounting advice. Hiring an accountant for salary calculations or other administrative tasks is advisable if they have employees or operate more complex businesses.
# Certain Activities Cannot Be Sole Proprietors
According to the Law on Personal Income Tax, lump-sum taxation is not recognized for specific activities:
- Advertising and market research;
- Wholesale and retail trade, hotels and restaurants, financial intermediation, and real estate activities;
- Activities funded by other entities.
LLCs do not face restrictions on the activities they can perform. They can register for any activity code.
2.1. Advantages of Limited Liability Company (LLC)
All the disadvantage of lump sum taxation are actually advantages of a Limited Liability Company (LLC). We have outlined some additional advantages and disadvantages of a Limited Liability Company. For all specific requirements, we recommend contacting professionals such as tax advisors or accountants.
# Maintenance of Business Records
An LLC is obligated to maintain business records and hire an accountant. Business entities cannot be subject to lump-sum taxation. For newly established or smaller companies, the most efficient solution is to engage an accounting agency, which will assist them in maintaining records, documenting all business changes, and calculating monthly salaries. Taxes, contributions at determined rates, and net wages are calculated and paid for LLC employees.
# Legal Representative and Status Changes
- An LLC can have one or more directors as legal representatives.
- A director can also be a foreign national.
- A director of an LLC can be employed by the company or act as a representative without being employed.
- A domestic individual entrepreneur, a foreign individual entrepreneur, or a foreign legal entity can establish an LLC.
- When establishing an LLC, founders contribute founding capital (at least 100 dinars and the basic capital can be increased).
- The responsibility for obligations in the company is proportionate to the contribution made, and members are not personally liable as sole proprietors.
- LLCs can change ownership structure, directors, or representatives, which is impossible for sole proprietors.
- Other status changes (merger of one company into another, merger of two or more companies to establish a new one, division and separation of a company) are possible.
- A separate place of business for an LLC can be registered as a branch.
# E-Invoices
Business entities are required to issue electronic invoices. Additionally, many legal entities involved in electronic invoicing need their partners to do the same.
Sole proprietors are not obligated to use e-invoicing, but if they do business with public companies, e-invoicing is mandatory. If they voluntarily register for the Electronic Invoicing System, it is advisable to hire an accountant.
# Dividend Payments
Dividends represent income from capital paid to LLC members when distributing profits earned during business operations. This profit is taxed, and a 15% dividend tax is calculated and paid upon dividend payment.
2.2. Disadvantages of Limited Liability Company (LLC)
# Change of Legal Form from LLC to Sole Proprietorship
An LLC cannot change its legal form from an LLC to a sole proprietorship because the LLC is responsible for obligations with the company’s assets, and members are liable up to the value of their share in the company. Additionally, the process of closing an LLC is complex and time-consuming.
A sole proprietor can transform into an LLC. In this case, the sole proprietor is simultaneously removed from the APR, and a new LLC is established, which assumes all rights and obligations of the sole proprietor’s business.
# Complex Administrative Procedure
The process of establishing an LLC is more complex than registering a sole proprietor:
- More documentation must be collected (electronic registration application, legal acts, founding act, statutes, proof of identity for members, etc.).
- LLCs can be established electronically – we have written detailed articles about establishing LLCs electronically.
- All LLC fees are higher than those for sole proprietorships (establishment, changes, removal).
- When an LLC earns a profit, a 15% tax is paid, plus a 15% dividend tax when dividends are paid.
# Temporary Suspension
An LLC cannot register a temporary suspension of business activities (an LLC cannot obtain inactive status). In fact, business entities cannot temporarily suspend their activities and have tax obligations suspended.
A sole proprietor can temporarily suspend business activities. The period of inactivity can be limited or unlimited, and tax obligations are suspended during this time.
# Liquidation of LLC
Liquidation is the process of closing a company, where assets are sold or liquidated to settle obligations, and then the remaining funds are distributed among the founders. Closing an LLC is more complex than deregistering a sole proprietorship due to the lengthy liquidation process and the extensive administrative procedures involved. The total duration of the liquidation process is at least 120 days (four months), but in practice, this period is often longer.
# Monetary Fines
Monetary fines for economic or tax offenses an LLC commits are higher than those of sole proprietors. Legal entities, as well as the responsible individuals of the company, bear the responsibility. For sole proprietors, the penalties are lower, as the responsibility falls on the individual entrepreneur.
We hope we have clarified the differences between LLCs and sole proprietorships and their advantages and disadvantages. For any additional questions, feel free to contact us. We can assist you in choosing the best option, as HLB T&M Consulting, an accounting agency, provides services related to company formation in Serbia, tax, and business consulting, as well as outsourced payroll services.
