By Michelle Morris on 07/12/2021 06:00:00

Sole Trader or Limited Company

This must be one of our most frequently asked questions… Should I be a sole trader or limited company?

With that in mind we wanted to compile an article, which we hope answers everyone’s questions as to whether you should be registered as a sole trader or limited company.

Let’s start with understanding the difference between the two…

Sole Trader

As a sole trader you are essentially your business. Legally, you are one and the same. You may have a business name, but that name is not a classed as a ‘company’, just a ‘trading as’ name. You would file a self-employed tax return as a sole trader. You would be required to pay Capital Gains Tax (GCT) on any profits gained from selling business assets, but there are certain tax relief options available to sole traders.

Limited Company

When you register a limited company, you receive a form of legal protection that prevents company directors from being held personally responsible for any debts or financial losses. A limited company becomes a separate legal entity and therefore the company owns its assets and debts – not the individual directors. Limited companies must pay Corporation Tax on any profits from the sale of company assets.

If you’re a sole trader, you may have been told that there are tax savings to be had if you were to change to become limited. Whilst this could be the case, there are multiple things to consider before you make any changes.

What are the advantages and disadvantages?

What may be an advantage to one, could be a disadvantage to another. It is important to seek professional advice to understand the best way to run your business. At Ellacott Morris this is something we can help with. You may well make a tax saving if you change to a limited company, but this depends on your personal circumstances.

As a sole trader you pay income tax on any profit that exceeds your personal allowance (currently £12,570 tax free allowance as of tax year 21/22), as well as class 2 and class 4 National Insurance (NI). You may be required to make a payment on account, pre-empting your future income tax charges, which can cause cash flow issues for some businesses.

As a limited company you would pay corporation tax, which is taxed at a lower rate than income tax, and there’s no need to pay NI. However – and here’s the really important bit…. Limited companies are not entitled to any form of tax-free allowance. Personal dividends also became a form of taxable income as of April 2016, adding another factor to consider.

As a limited company you are more exposed. Information is available through Companies House and is easily accessible to those who wish to know more about your business.

As a limited company you need to be aware that the administrative responsibilities are quite vast. As a sole trader you simply have to file one self-assessment tax return each year, whereas a limited company must file a set of accounts, a confirmation statement and a company tax return. Each company director must also file a personal tax return. If you operate as an employee within your business, the company must be registered as an employer and able to process payroll. Whilst the additional paperwork may seem daunting, this is something that we can take care of for you at Ellacott Morris.

The protection that a limited company brings is incredibly appealing to some, avoiding the pressure of being held personally responsible for company debts and losses. As a sole trader, your own assets would be considered to pay debts. There are insurances you can take out, so this may be worth investigating. For limited companies there are legal responsibilities to be taken into account for all company directors. Failing to adhere to these responsibilities and applying due diligence can result in a serious fine or even a prison sentence.

Some people may also prefer to operate as a limited company if they’re seeking investment. This format would enable you to sell shares in your company, which is not an option if you’re a sole trader. You would not however have the same access to company funds. You would not be able to simply take money from the business account. You would be paid a salary and/or dividends.

With all these pros and cons in mind it really is worth seeking professional advice and guidance. This article covers the main headlines but there are even more factors to consider, and everyone’s circumstances are unique.

Contact one of our experts today and let us help you make the right decision.

By Michelle Morris on 07/12/2021 06:00:00