Sole Trader vs Limited Company
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Sole Trader vs Limited Company: What’s the Difference
Choosing the legal structure of your business – whether you go with sole trader or limited company – affects everything from your tax rates to liability and business benefits. With over 40 years of experience providing accountancy guidance to businesses of all types, we’ll break down each structure to help you make an informed, confident decision.
This article covers the legal structures so you can decide which is best for your unique circumstances. If you’re considering switching from legal structure to another, we will touch on this as well.
Contact us today for a free, zero-obligation consultation.
Key Differences Between Sole Trader & Limited Company
Being a sole trader means that financially, you and your business are one entity. Your personal assets are tied to the company, and you are responsible for business liabilities and filing your own tax returns.
With limited companies, the business is a separate legal entity from its owners, members and shareholders. The company assumes liability, not you personally. Meanwhile, your personal assets stay protected and separate from the company’s finances.
Differences between sole trader and limited company: Deep dive
Here are the key differences between a limited company and sole trader in more depth.
1. Tax
Sole traders: Tax
Sole traders are taxed as individuals, meaning your business income is counted as personal income, and tax rates are based on earnings tiers. Sole traders can pay income tax ranging from 0% to 45%. There are four possible tax rates for sole traders:
Income Tax rate £0-£12,570 No tax due £12,571-£50,270 20% £50,271-£125,139 40% £125,140 and above 45% Sole traders must also pay Class 2 and Class 4 National Insurance (NICs), with the amount determined by your profit levels. To see the thresholds, go to Gov.uk. If your turnover exceeds £90,000 (the current VAT registration threshold) then you must register for VAT.
Limited companies: Tax
Limited companies pay corporation tax on their profits, currently set at 19% for profits below £50,000. This can be lower than the personal income tax rates for sole traders.
Companies earning over £250,000 pay a 25% tax rate, while those earning between £50,000 and £250,000 face an effective rate of 26.5% due to the progressive taxation of profits (you will pay some profits at the 19% rate and others at the 25% rate).
Read more about Corporation Tax.
2. Liability & Funding
Sole trader: Liability and funding
As a sole trader, you have unlimited personal liability. This means that if your business fails, creditors can claim against personal assets, including your home and car.
Additionally, it may be more difficult to secure funding as sole traders are seen as higher risk. However, if you have a strong personal credit score or backing from investors when you seek further investment, you may be able to minimise this challenge.
Limited company: Liability and funding
Limited companies offer “limited liability”, protecting your personal assets from company debts. Any company debts stay with the company, ensuring they don’t impact your personal finances.
Limited companies are typically viewed by lenders as more stable, increasing the chances of securing loans, grants, and investment.
3. Control
Sole trader: Control
Sole traders have complete control over their business decisions. There tends to be less paperwork to complete and fewer financial and legal stipulations to meet. You can make company decisions without having to get shareholder approval, and all the profits go directly to you.
Limited company: Control
In a limited company, directors may need to consult with shareholders before making major decisions. This can sometimes slow down decision-making (especially when your company takes on external investors) but brings the advantage of collaborative strategic thinking, which can lead to new growth ideas.
Directors don’t keep all profits, as earnings may need to be disseminated amongst the shareholders.
4. Public Disclosure and Perception
Sole trader: Public disclosure and perception
Aside from self-assessment tax returns, sole traders don’t need to disclose their earnings. This allows more privacy, but lack of transparency can also make it harder to build credibility with prospective clients and investors who may perceive sole traders as less established or professional.
Limited company: Public disclosure and perception
Limited companies must file accounts annually with Companies House, making this information available publicly. Investors and future clients may view this transparency favourably, enhancing your credibility.
5. Administration
Sole trader: Admin
Setting up and managing a sole trader business is administratively simple. Aside from registering with HMRC and submitting your self-assessment tax returns, there is usually minimal paperwork. You are not required to file accounts with Companies House or maintain records beyond what’s required for tax purposes.
Limited companies: Admin
Limited companies often have more administrative obligations, such as filing accounts and managing detailed financial records. These additional requirements can mean more compliance and accounting time and costs.
Switching legal structures
The process of switching to a new legal structure differs greatly depending on your business’s assets and administrative requirements.
You may wish to consider getting a business valuation for either switch. We recommend working with accountant for a full understanding of tax implications, and other affected factors.
From sole trader to limited company
Switching from sole trader to a limited company is considered the most straightforward. You must:
- Notify HMRC that you are no longer a sole trader
- Register your company with Companies House
- Transfer business assets to the new company.
Once this is incorporated, HMRC will register your business for Corporation Tax, but you’re required to set up an online account and inform them when your company starts earning. If your salary comes from the company, you may be able to register for PAYE (Pay As You Earn) to handle income tax and National Insurance.
You are not required to open a business bank account, but it’s recommended for separating finances, efficient financial bookkeeping, and avoiding creating a Director’s Loan Account (DLA), which can cause legal issues.
Read more about how we can help you as a limited company.
From limited company to sole trader
Switching from limited company to sole trader is not as common, but it is sometimes necessary. The steps involve:
- Settling outstanding debts
- Filing a final corporate tax return
- Filing a final VAT return (if you company is VAT registered. You must cancel your VAT registration afterwards)
- Paying employees
- Closing your business bank account
- Inform HMRC of your new sole trader status.
Any information about your limited company across channels like websites and social media must also be changed.
Visit Gov for more information about changing your business.
Read more about how we can help you as a sole trader.
Streamline your Legal Structure with Expert Accountancy
Understanding the pros and cons of both legal structures will help you to make an informed decision. At Mollan & Co, we offer tailored accountancy guidance based on unique factors like business goals, personal circumstances, and financial circumstances. We will craft our structural expertise to your long-term goals, while unearthing potential profit opportunities.
Contact Mollan & Co today for a free, zero-obligation consultation.
Author ProfileI'm the owner and Managing Director of Mollan & Co Accountants. I'm a skilled and efficient accountant with more than 20 years of experience in the industry.
I developed valuable skills in commercialisation through my work in the science and technology department at the Scottish University. Then, in 2002, I formed my own internet-based marketing company, producing and distributing 360° virtual reality tours for the Scottish tourism sector.
I now use my commercial skills, expert tax knowledge and first-hand experience to help other businesses grow and flourish through strong accounting practice.
Our success at Mollan & Co is directly related to the success of our clients.
