Making the Right Choice: Sole Trader vs Limited Company
Sole Trader vs Limited Company
Maybe you have a good business idea or maybe you have started a business?
One of the first things that need to be decided is your business’ legal structure. Should it be set up as a sole trade or is it best to incorporate a limited company? If you have already started your own business, you may be considering when it may be worth incorporating the business into a limited company.
What is a sole trade
Someone operating as a sole trader business is self employed and are treated as the same single entity as their business. What this means that as a sole trade business owner you are responsible for any debts that the business incurs, meaning you could lose your savings or even your home if things go badly.
On a more positive side being a sole trader is much more flexible and easier to set up and run than a limited company. Essentially all you need to do is to keep a record of your income and expenditure and then report that on a self assessment tax return each year.
Operating as a sole trader will normally result in you paying more tax than as a limited company. You may also find that some clients will not want to work with you as they prefer to deal with limited companies.
What is a limited company
If you set up a limited company it, unlike a sole trade, is a separate legal entity. This means that you, as a company director, have limited liability if things go wrong, something that can provide great comfort as directors and shareholders cannot be pursued personally for company debts. Additionally, as a limited company, the company can own assets in its own right, providing further protection for your own assets as a director.
Limited companies pay corporation tax on profits that it makes unlike sole trades which pay income tax. The tax regime of limited companies can be more efficient that sole trades and it also offers greater flexibility for example allowing you to choose when you draw any profit out of the company. A popular way to be paid when operating as a director of a limited company is to pay yourself a small director’s salary and draw the rest of your pay through dividends which are subject to a lower dividend tax.
Running a limited company can be more expensive and time consuming than running a sole trade. This is because there are a greater amount of returns that need to be submitted. For example, annual accounts need to be prepared and submitted each year.
Additionally, there is much greater transparency over limited companies than sole trades. Much of the information relating to companies such as financial reports and owners details are in the public domain.
How to set up your business
Setting up a sole trade
If you want to operate your small business as a sole trade then you can have a business name, although it is not a legal requirement.
If you are not already registered to complete self-assessment returns then you will need to register for self assessment with HM Revenue and Customs (HMRC).
There is further information on the requirements for setting up and running a sole trade in the sole traders and self-assessment section of this website
Setting up a limited company
To set up a limited company you will need to choose a suitable (and available) company name and then register it with Companies House. Our article on this website setting up a limited company contains further information on how to set up a limited company.
It is advisable to seek advice before setting up a limited company to ensure it is structured in the best and most tax efficient way. At Sherwin Currid we have many years experience in setting up limited companies and can help and support you through this process.
Which is best for me?
The answer to the question whether you will be better off as a sole trader or a limited company is very much dependent on your personal circumstances, future plans and your preferences.
It is advisable to talk through such a decision with a professional adviser such as Sherwin Currid. Some aspects of the decision making such as the tax implications are complicated and need to be carefully evaluated.
The main elements that should be considered when deciding your best structure are:
One of the main advantages of a limited company is that as a separate legal entity it offers the directors and shareholders limited liability should something go wrong. This is not the case with a sole trade where liability and business debts fall directly on the individual.
Administration and Paperwork
There is significantly less administration and paperwork involved in running a sole trade over a limited company. It can save you a considerable amount of time being a sole trader, especially in the early years whilst you are learning the ropes. As a director of a limited company each year you will need to file a confirmation statement and a company tax return. VAT registration, however, is mandatory for both sole traders and LLCs if your turnover exceeds £85,000 in a 12 month period.
Alternatively if you choose to pay an accountant to look after your business compliance then it will be cheaper for you to operate as a sole trade as opposed to a limited company.
Setting up your business
It is quicker and easier to set up a sole trade rather than a limited company because there are significantly fewer requirements to do this.
Ownership of your business
With a sole trade it is very simple in that you are the boss, you own the business and you make the decisions. With a limited company it can be more complicated because depending on how you structure your business there are more stakeholders and you may be answerable to other business partners and shareholders, which can lead to your business being held in much higher regard.
Sharing of the profits
With a sole trade this is again straightforward in that as the business owner you keep all of the profits. With a limited company the profits are distributed amongst the shareholders which can add complications depending on how you structure your business.
As a sole trader you will pay income tax and national insurance contributions on your profits, the amount of income tax you pay will depend not only on how much profit you make but also on what other income you have.
Limited companies pay corporation tax on profits made and then any profit after tax has been paid can be distributed to shareholders as dividend income which the shareholder will pay tax on. Directors that work for the company can also earn a salary from the company. Structured correctly, the tax benefits for a company owner can be significantly greater than for a sole trader. Often the tax advantage of a limited company warrants a business being structured as a limited company but expert advice should be take to assess whether this is the case for you.
Ownership of assets
Depending on the type of sole trade business that you have you may need to transfer your sole trade assets into the new company. This could include things such as stock, machinery, equipment and property. You should be aware that transferring some business assets can create a capital gains tax liability based on the market value of the assets. This liability, if there is one, can often be reduced or even deferred by claiming available tax reliefs, including incorporation relief.
A sole trade has much greater privacy than a limited company. This is because many of the returns and records pertaining to a limited company such as ownership records and annual accounts are in the public domain and available for anyone to see.
How can Sherwin Currid help you decide on your business structure?
Our team of expert accountants have experience working with both sole traders and limited companies. All of our clients are offered an initial consultation with their dedicated accountant upon joining, they will be able to discuss your options and offer advice on the best decision for you.
We constantly stay abreast of changes in tax legislation and will ensure you are able to make use of the best tax reliefs. We work with small business owners across a wide range of industries and will make sure you are being looked after by an accountant best suited to your situation. We look after both your business and personal tax so you can rest assured you are tax efficient and compliant with the latest regulations.