Sole trader or limited company?

Sole trader or limited company? This is a question I get asked a lot and there isn’t one answer fits all, it depends! It used to be more tax efficient to be a limited company and less administration to be a sole trader, though with recent legislation changes and the introduction of making tax digital for sole traders neither of these are still true so which structure is right for you?

Being a sole trader means running your business as an individual. There is no legal separation between you and it, whereas as a limited company the company is a separate legal entity from you, it’s like its own person.

As a sole trader, you are personally liable for any losses or debts, whereas with a limited company there is limited liability, you are not personally liable and your personal assets are protected.

Setting up as a sole trader is simple, you can start today without having to do anything, however once you reach £1,000 turnover in a single tax year (6 April – 5 April) you need to register as self employed with HMRC. With a limited company you need to register as a company with Companies House and pay £50, your company is usually registered within 24 hours. A sole trader business is therefore more private unlike a limited company whose details are public, however they are likely to be seen as more professional and established.

With a sole trader, whatever you make is your own profit, however you do have to pay tax on it all as personal income. With a limited company all profit belongs to the limited company and you have to pay corporation tax on it. If you wish to extract funds for yourself you either have to register as an employer and run monthly payroll or issue dividends. Dividends can only be issued from any profit the company has after paying corporation tax.

Due to a limited company being separate to you as an individual, there may be ways in which you can do effective tax planning through the way you extract the funds, however as a sole trader the options are limited and income tax is due on all profit.

Filing requirements are usually what swings a person’s decision! As a sole trader your only reporting requirement is a self assessment. However, with the new making tax digital guidelines these are going to involve quarterly submissions via accounting software. For a limited company you need to submit a yearly confirmation statement, annual statutory accounts and a possible self assessment if dividends are taken. If you run payroll there are also monthly payroll submissions and PAYE payments due, as well as yearly PAYE submissions.

As you can see it’s not an easy decision to make, though you need to decide which structure works best for you. If you are making a significant profit, want to protect your personal assets, want to be viewed more professional and apply for funding, then a limited company may be the best structure for you. Some business owners start as a sole trader to ‘test the water’ and then decide to incorporate once they start growing, however the date of incorporation would be seen as day one of a new business.

Hopefully this has helped with your decision making though any comments or questions, please ask below!