Sole trader or limited company: Which is best for your business?
Posted on 11th December 2023
Depending on the size and type of your business there are pros and cons to working as a sole trader or creating a limited company.
The differences between a sole trader and limited company
As a sole trader you submit your annual accounts privately to HM Revenues and Customs (HMRC). Although you might need to share them with banks and suppliers to obtain loans or credit, they aren’t publicly available.
In contrast, a summary of your limited company’s annual accounts is available publicly at Companies House. Directors of limited companies also have legal responsibilities and must generally put the interests of the whole company before their own.
Whichever option you choose, you can change in the future. Many business owners decide to start out as sole traders and then form a limited company later.
Sole trader vs limited company. Advantages and disadvantages
Sole trader
Advantages. There’s less administration, so you’ll save time and money. You are in charge and can make all the decisions without involving shareholders or directors. If you make a loss in your first year you can reduce your tax bill and possibly claim a refund. When your business income is lower, you might pay less tax. And, once you have paid your tax through your Self Assessment Tax return (SATR), you can keep all the profits.
Disadvantages. You are responsible for all your business debts and risks, although insurance can help protect your financial position. Unlike limited companies, your business name isn’t protected so anyone can trade under the same name. Selling your business or passing it on as an inheritance isn’t straightforward.
Limited company
Advantages. A limited company is separate from you personally, so your liability is limited to the value of your shares. However, as a Director you might be asked to personally guarantee a loan or large credit agreement. As your income increases, it’s generally more tax efficient although Corporation Tax rules have changed this year. You can sell your company shares or leave them in your Will.
Disadvantages. Having a limited company requires more administration and involves extra responsibilities. Companies House must receive your annual accounts and Confirmation Statement on time. You must also submit a Corporation Tax return and pay company tax to HMRC. You’ll also pay your personal tax through Pay as You Earn (PAYE) or submit a SATR.
Is it better to be a sole trader or a limited company?
Working as a sole trader is the simplest way to run a business. There’s not much administration and your main obligation is to do a good job for your customers. However, if you need business finance it might be more difficult to obtain.
As a sole trader you’re taxed at between 20% and 45% on income from profits above your personal tax allowance. This happens even if you don’t withdraw all of your profits from your business bank account.
If you regularly leave money in your business account, it could be time to set up a limited company. This requires incorporation and registration but it can help to raise business funds and establish your brand.
Depending on the company’s profits, you will pay marginal Corporation Tax between 19% and 25%. You can also claim a wider range of allowances and tax deductible expenses. Family members can be shareholders and receive dividends from the business. These don’t attract National Insurance and have a lower income tax rate than a salary. Lenders often prefer limited companies over sole traders because of the additional legal protection and tax relief.
Please get in touch if you would like to discuss the advantages and disadvantages of being a sole trader or limited company.
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