As a sole trader, you risk missing out: discover how starting a limited company can work to your advantage

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    Andrea Reynolds

    Page written by Andrea Reynolds. Last reviewed on May 21, 2024. Next review due April 6, 2025.

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      How you structure your business – however small it is – can make a big difference to your bottom line (and beyond).

      Setting up as a sole trader is free and easy: a straightforward declaration on your tax return is all it takes. This simple move is enough to give you greater control over your finances, from when you pay your tax bill to reclaiming money spent on our business. 

      Being a sole trader is the fast and easy way that many entrepreneurs start their first business. But just because it’s the easiest thing to do doesn’t mean that it’s the best way to structure a business. 

      Even if you have no intention of employing another person, selling shares or charging VAT, being a limited liability company could make a huge difference to your personal finances and it’s worth considering as a structure for your business.

      What’s holding you back?

      People often don’t make a change because they think that doing things differently will be expensive, a hassle or they don’t have the knowledge they need to make it work. Ashley, an artist and illustrator, is a good example. After years as a freelancer, a chance encounter made him rethink his company structure: 

      “Basically I met an accountant at a friend’s birthday party. It must’ve been when I was putting off doing my tax return because she offered to do it for me and I’d just got a big contract so I thought why not pay someone to do it properly rather than spend weeks putting it off like I normally do. It was a classic story – the accountant found enough savings to cover her fee. So when she recommended that I set up a limited company for my business activity, I trusted her to just do all the admin on my behalf. And it all just worked out fine.”

      The advantages of being a limited company

      If setting up is easy, what are the advantages?

      Perhaps the most important thing to consider is risk: as a sole trader, you carry a lot more personal liability than you would if you were a limited company. If, for example, there is a business debt that you cannot pay because you lose customers or a client hasn’t paid, you are on the hook for the full amount. Your personal assets could be taken to cover the debt – your house, car and bank account are all exposed. 

      As a limited business, it is the company that is liable and only to the extent that it has assets and cash in the company to liquidate and pay off the debt. The ‘limited’ in ‘limited company’ stands for ‘limited liability’: it’s the most important bit, so they put it in the name. 

      A clear advantage is that borrowing is easier. If you need to access credit, the majority of lenders favour limited companies over sole traders. 

      You may also find that you are able to reduce your personal tax liability: you can make up your income as a combination of salary and dividends, which are taxed at different rates and which have tax-free base lines. By playing with the proportions of salary and dividends, you can pay less tax. The numbers change every year, but your accountant will do the sums for you. You can make anyone a director of your company, which means that you can also find tax efficient ways of keeping your earnings within a household. 

      Ashley, for example, has made his girlfriend a company director, pays her an annual £2,000 tax free dividend which they use to indulge their shared love of travel. 

      He is also able to top up his pension at the end of each year with additional profit, which again is a tax free benefit. 

      Being a limited company does NOT mean that you have to register for VAT: on current figures (2022/3) you need to be earning £85,000 before you have to register and pay. You can still register if you earn less than this. Why? You can claim the tax back on anything you buy for your company that includes VAT. 

      If all this sounds like an administration burden, think again: most bank accounts now come with automatic accounting software solutions which makes submitting accounts quick and easy to do. Your accountant may also sign you up to an accounting software package that they can access and which will help them advise and help you. 

      Finally, you may be thinking that as you have been a successful sole trader for a number of years, why change? You may be at a stage in your career where you want to be in charge of the business rather than doing all the day-to-day work yourself. But to make this change, you need funding…. Enter the Startup Loan. This is a loan of up to £25,000 per company director that is available to businesses less than three years old. By starting a limited company, you effectively reset the clock, and with your successful background will be seen as a lower risk to the lender. These loans often come with mentoring so that you will be able to make the change more easily with expert advice and support.

      Final thoughts

      Many of the admin burdens of starting a limited company are lifted by easy-to-use technology and by playing with the numbers you could find that the reduced tax liability means your accountant and subscriptions pay for themselves. 

      Right now, we all need to keep as much of the money we earn as possible. You probably became a sole trade because you wanted to be your own boss. By starting a limited company, you can give yourself even more perks and advantages. 

      Small is beautiful but thinking too small can be bad for your wealth. If your business needs funding to get off to a great start Swoop can help. Check out Startup Loans which could boost your business by £25,000 per director.

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      Written by

      Andrea Reynolds

      Before launching Swoop, Andrea started as an accountant with KPMG. Her career evolved with a focus on raising funds for small businesses. Andrea is a non-executive director for Berkshire Hathaway European Insurance.

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