Should you switch from limited company to sole trader?

When people in the UK start a business or “go self-employed”, overwhelmingly they choose to become a sole trader, which is the most popular legal structure for a business. Out of the UK’s 5.5m small-business population,…

5 Minute Read

Last Updated: 19th April 2024

When people in the UK start a business or “go self-employed”, overwhelmingly they choose to become a sole trader, which is the most popular legal structure for a business. Out of the UK’s 5.5m small-business population, 3.2m (56%) are sole-trader businesses (AKA “sole proprietorships”).

The second most popular choice is to register a private limited company (a process called “incorporation”). The UK has about two million limited companies, which is 37% of the total business population. There are also 384,000 (7%) ordinary business partnerships. 

Just because you pick one legal structure doesn’t mean you can’t later change to another if it better suits your new circumstances. Before we look at why you might change from being a small limited company director/shareholder to a sole trader, let’s briefly compare both options.

Sole trader versus limited company

A key reason why people register and operate as a limited company is to shield themselves from personal financial risk. In law, a limited company is separate from its director(s), so the director(s) aren’t liable for the company’s debts, as long as they haven’t traded recklessly or fraudulently or given personal guarantees for any loans.

By contrast, a sole trader is the same in law as their business, which means they are liable for their business debts. That liability is unlimited, which can mean that a sole trader has to sell things they own to pay off their business debts, which could include their car or home.

Running a limited company requires more tax admin when compared to running a sole trader business, which can take up much more of your time or cost you significantly more if you pay an accountant to take care of it all for you.

How are sole traders and limited companies taxed?

  • Sole traders get a tax-free Personal Allowance of £12,570 each year. Sole traders earning profits of £12,571-£37,700 pay 20% Income Tax; those with £37,701-£125,140 profits pay 40%; and those with profits of more than £115,140 pay 45%.
  • Sole traders earning £6,725 or more a year also pay Class 2 National Insurance contributions (NICs) of £3.45 a week and Class 4 NICs of 9% are payable on profits between £11,570 and £50,270, with 2% payable on profits over £50,270 (*2023/24 tax year for all figures).
  • The main rate of Corporation Tax for limited companies is 19% on taxable profits. Most small-company directors minimise their personal tax liability by paying themselves a mix of share dividends and a small salary (not enough to have to pay Income Tax, but enough to have to pay NICs that entitle them to state pension and other benefits).
  • Regular dividend payments provide most of their income and the first £1,000 is tax free. Thereafter, you pay 8.25%, 33.75% or 39.35%, determined by whether you’re a basic, higher or additional rate Income Tax payer.

What’s the most tax-efficient option?

Operating as a limited company is often reported as being the more tax-efficient option – but that’s not always true. If you earn, say, £15,000 in profit, being a sole trader is actually more tax-efficient (to the tune of about £150 a year). For illustration purposes only, here are some other estimated examples:

Annual profitTax saved by operating as a limited company
£20,000(£317)
£25,000 (£321)
£30,000(£325)
£40,000(£334)
£50,000(£343)
£55,000£409
£60,000£1,123
£70,000£343
£90,000 (VAT threshold)(£1,518)
£100,000(£2,449)

*All approximate figures for illustration only, based on you being the only company director, taking a salary up to the National Insurance threshold, with no other taxable income*

So, operating as a limited company isn’t always the most tax-efficient option. If you’re a relatively low earner, being a sole trader might in fact mean you pay less tax. As a general rule, the higher your annual profits, the more tax you’ll save by operating as a limited company.

But that doesn’t tell the whole story. If you can’t or don’t want to do your own tax admin and tax returns, you’ll need to pay an accountant. They could charge you £50-£80 or more a month, which probably wipes out your tax saving unless you’re earning profits of more than £35,000 a year.    

Why might you switch from limited company to sole trader?

As explained, operating as a sole trader might lower your tax bill, while the tax admin will be much less, too. You could even save money on your accountancy fees by doing your own sole trader Self Assessment tax return, which can be fairly simple.

Most customers probably won’t care that you’re a sole trader, because, in truth, being a limited company doesn’t make you any more stable, reliable or better at what you do. As a sole trader, you can employ others and still grow a highly successful business, which you could later re-register as a limited company, if that became more tax-efficient.

If your personal financial risk is small and you’re looking for ways to save money and make your life easier by doing less tax admin, switching from private limited company to sole trader could be a good move. Always crunch the numbers carefully to see which option is best for you and if necessary get tailored expert advice to ensure that you’re making the right decision for you and your business.  

GoSimpleTax is award-winning software that offers you an easier way to complete and file your UK Self Assessment tax return. And to ensure that your tax return is error-free and that you’re claiming all of your allowable and reliefs, why not get your UK Self Assessment tax return checked by one of our experts?  

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Blog content is for information purposes and over time may become outdated, although we do strive to keep it current. It's written to help you understand your Tax's and is not to be relied upon as professional accounting, tax and legal advice due to differences in everyone's circumstances. For additional help please contact our support team or HMRC.

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