Sole Trader or Limited Company – How to trade?
October 25, 2023

As professional bookkeepers for tradespeople, clients often ask us how they should trade. Should they operate as a Sole Trader or Limited Company? While we can’t answer that question, we can explain the distinctions between the two (in jargon-free language!) to help with your decision-making. Read on for four key differences covering ownership, paperwork, drawings, and taxation.

Sole Trader or Limited Company:

1: Who owns the cash in the bank?

Sole Trader: You do. Anything the business owns, including cash in the bank and equipment, is yours to use. The flip side is that any debts the business has are also yours.

Limited Company: The company owns everything. Even if you’re the only director, anything owned by the business is not yours. But that also means you’re not personally liable for debts the business owes. You’ll need to show discipline as the Owner or Director of a Limited Company. You cannot treat the business’s bank account as an extension of your own.

2: What paperwork will I or my representatives need to complete?

Sole Trader: You must submit a self-assessment tax return every year. This covers all your income, including any from employment, self-employment, or property. You have until the end of the January after the tax year. So, for the tax year that ended 6th April 2023, you have until 31st January 2024 to submit your return and pay any tax due.

Limited Company: Your paperwork requirements are a bit more involved. As well as a personal self-assessment return, you must submit annual accounts, a company tax return, and a confirmation statement. If you choose to pay yourself a salary, you must register as an employer and run payroll. While it’s not a legal requirement, many Limited Company owners work with a bookkeeper or other accounting professional to help them.

3: How do I take money out of the business?

Sole Trader: You have full access to any money the business has. In practice, we always recommend having a separate bank account for the business, but nothing stops you from taking money directly from this for your personal use. We recommend treating this like a salary and transferring money once a month, as many people find this easier to manage. Any money that you take from the business is considered drawings. You don’t need to register as an employer with HMRC or declare this as income.

Limited Company: You can’t use the company’s bank account as your personal funds. You can take an income from the company in salary, dividends, or both.

It depends on individual circumstances, but many directors will take a nominal salary and top this up with dividends. If you’re taking a salary, you must register as an employer with HMRC (even if it’s just you). Dividends are a distribution of any profit after corporation tax, so you need to be careful that you don’t take more than is available. Again, this is an area where it’s best to speak to a professional about what would be best for you.

4: How will I pay tax?

Sole Trader: As there’s no distinction between you and the business, your profits are treated as income and taxed. Even if you don’t physically take the money out of the bank account, tax will be applicable on all the profits. However, you get your regular personal tax allowance (£12,570 for 2023-24), so only pay tax on your income above this amount. Tax is calculated using the standard individual tax bands of 20%, 40% and 45%.

Limited Company: The company pays tax on profit, currently at a rate of 25% (19% if your profits are £50,000 or less). Companies have no tax allowance, so this applies from the first £1 of profit. You’ll also personally pay tax on any income you receive from the company. Tax on dividends is calculated at a lower rate than other personal income, which means taking income this way can be more tax efficient.

We hope you’ve found this short introduction to the differences between operating as a Sole Trader or Limited Company helpful. If you have any questions, don’t hesitate to contact us HERE.

Photo by Callum Hill on Unsplash