By understanding the range of business structures available, you can ensure that the model you adopt meets your current and future needs, protects your interests and reduces your administration and tax liabilities. In this article, we will discuss the benefits of running a company versus being a sole trader.
What is a sole trader business?
A sole trader is a simple type of business structure whereby the entity is owned and run by one person. Unlike with a limited company, as a sole trader, there is no legal difference between the owner of the business and the business itself. When it comes to setting up and running a sole trade trader business, owners tend to enjoy much less legal formality and low administration costs.
What is a limited company?
A limited company can take two main forms; a company that is “limited by shares” and a company that is “limited by guarantee”. Limited companies are legally separate from those who run the business, unlike a sole trader arrangement. In addition, as a limited company, the business’s finances are kept separate from those of the individual members. A limited company limited by shares typically makes and retains the profits it makes, whereas companies limited by guarantee are typically ‘not for profit’.
Pros and cons of a limited company vs sole trader
When it comes to the benefits of being a company versus a sole trader, one of the main advantages is the limited personal liability of the shareholders and directors. This means that the members of a limited company are not personally liable for its debts or losses. Limited companies also tend to be more tax efficient. Whereas sole traders pay income tax at 20% or even 45% (at the higher rate), limited companies are only required to pay corporation tax (currently 19%). While directors and shareholders who receive a dividend also need to pay dividend tax, this is lower than the standard PAYE rates.
Limited companies also tend to be viewed as more credible than sole trader businesses, hence providing greater confidence to suppliers and customers. This credibility can also provide reassurance to potential investors and creditors.
On the opposite side, limited companies are more complex to set up and operate. While the process of incorporation is relatively straightforward, limited company members are responsible for meeting strict Companies House and HMRC filing requirements, including filing annual accounts and confirmation statements. Limited companies are also viewed as less private because of the public availability of the annual accounts and details of directors.
Can I change from a sole trader to a limited company?
If you initially set up your business as a sole trader because this made the most sense at the time, you may later decide to switch to a limited company arrangement. This is often done as a way of allowing the business to expand, encouraging investment and bringing on board new people to help run the operation. To change from a sole trader to a limited company, you will need to:
1. Register your limited company with Companies House – this can be done online or through a specialist in company formations. As part of this process, you will need to provide your new company name (certain limitations apply here), a registered office address, the name and service address of at least one director and shareholder, and the Standard Industrial Classification (SIC) code(s) for your business.
2. Inform HMRC that you are no longer a sole trader – you will also need to submit a final sole trader Self Assessment tax return by the deadline once the tax year ends.
3. Transfer your sole trader business to the new limited company – this includes transferring any existing business assets (e.g. machinery and property) to your new limited company.
4. Open a business bank account for your new limited company – this will ensure you can keep your business and personal finances separate
5. Notify stakeholders – you will need to inform your employees, suppliers, customers, creditors, landlord, and any debtors that you are now a limited company.
6. Register your limited company with HMRC - for tax and PAYE
If you are unsure of the best business structure for your needs or whether you will benefit by switching from a sole trader to a limited company, it is advisable to consult a specialist who can assess your individual circumstances and advise you accordingly. Making the switch at the right time may allow you to take your business to the next level, reduce your tax liability, and encourage investment and new talent.
Guillaumes LLP Solicitors is a full-service law firm based in Weybridge, Surrey. We have an experienced team of commercial law Solicitors who can assist you with any legal matter relating to your business interests or employment law. To make an appointment, please contact us or call us on 01932 840 111.