Commercial
Understanding Sole Traders in the UK
Author
Barbora Korcova
Author
Barbora Korcova
August 20, 2024
Commercial
In the diverse range of business structures, the sole trader model is one of the simplest and most common. This blog post will explore who is a sole trader (including registration process), as well as the advantages and disadvantages of this business model, and how it compares to other business structures in the UK.
Who is a sole trader?
A sole trader is an individual who owns and operates a business on their own. Unlike limited companies, there is no legal distinction between the owner and the business. This means that the sole trader is personally responsible for all aspects of the business, including its debts and liabilities. Setting up as a sole trader is straightforward. You must register with His Majesty Revenue and Customs (HMRC) and comply with the legal obligations of self-employment, such as keeping accurate financial records and filing an annual Self-Assessment tax return.
Advantages of being a sole trader
One of the primary benefits of operating as a sole trader is the simplicity and low cost of setting up and running the business. There are fewer regulatory requirements compared to limited companies, making it easier to start and maintain. Sole traders have complete control over their business decisions and profits, providing flexibility and independence. Additionally, they can enjoy certain tax advantages, such as claiming business expenses against income.
Disadvantages of being a sole trader
However, there are also significant disadvantages to consider. The most notable is the unlimited liability, meaning that the sole trader is personally liable for all business debts. This can put personal assets at risk if the business encounters financial difficulties. Furthermore, raising capital can be more challenging for sole traders compared to limited companies, as they may rely heavily on personal savings or loans. The business may also face limitations in growth potential due to the reliance on a single individual, although sole traders can have employees or work with freelancers.
Registering as a sole trader with HMRC
You must register as a sole trader with HMRC if you earn more than £1,000 in a tax year (6 April to 5 April), you need to prove you are self-employed (e.g. to claim Tax-Free Childcare) or you want to make voluntary Class 2 National Insurance contributions to help you qualify for benefits or state pension. If you don’t register, you may get a penalty.
Registering with HMRC is a straightforward process.
First, if you choose not to use your personal name, select a unique business name. You can’t use names that include ‘limited’, ‘Ltd’, ‘limited liability partnership’, ‘LLP’, ‘public limited company’ or ‘plc’, names that are offensive or similar to another company’s name (you can check the business trade mark name’s availability through Intellectual Property Office databases).
Next step then involves informing HMRC of your self-employment status. You can do this online through the HMRC website, providing details such as your name, address, and the nature of your business. Once registered, you’ll receive a Unique Taxpayer Reference (UTR) number for tax purposes and will need to complete a Self-Assessment tax return annually to report your income and expenses.
Start keeping accurate records of all business transactions from the outset to help with your tax return and financial management.
Additionally, while not mandatory, opening a separate business bank account is advisable to keep your finances organised and distinct from personal funds.
Comparison with other business structures
In contrast to sole traders, limited companies offer limited liability, protecting personal assets from business debts. However, they require more complex and costly administration, including registration with Companies House and adherence to statutory requirements.
Partnerships, another common business structure, involve two or more individuals sharing responsibility for the business. While they offer shared decision-making and resources, they also entail shared liability, which can complicate matters.
FAQs
What is the difference between self-employed and sole trader?
“Self-employed” is a broad term describing anyone who works for themselves, managing their own business or freelance activities, and handling their own income and tax obligations. It includes various business structures such as sole traders, partnerships, and limited companies. In contrast, a “sole trader” is a specific type of self-employed individual who operates their business alone. Sole traders are personally responsible for all business aspects, including debts and liabilities, and must register with HMRC for tax purposes but do not need to register with Companies House. In essence, while all sole traders are self-employed, not all self-employed individuals are sole traders, as they may choose different business structures.
Do I need to register as a sole trader with Companies House?
You do not need to register with Companies House as a sole trader. You only need to register if you are setting up a limited liability partnership or a company.
Conclusion
Being a sole trader in the UK provides a straightforward and flexible way to start and run a business, especially for those seeking independence and simplicity. However, it comes with significant risks, particularly regarding personal liability. If you need legal assistance with setting up your business or mitigating personal risks, contact our team to arrange a consultation. We would be more than happy to help!
