Should I set up my business as a sole trader?

What is a sole trader?

A sole trader is an individual who trades on his/her own on a self-employed basis. If you start working for yourself as a sole trader, you will own and run your business as an individual and will keep all the business’s profits after taxes.

There is no legal distinction between a sole trader and his/her business. A sole trader:

• is responsible personally for any debts of the business
• is liable to pay income tax on profits
• may receive National Insurance credits automatically if profits are above HMRC’s Small Profits Threshold, which helps to protect entitlement to the State Pension and certain benefits
• can choose to make voluntary Class 2 National Insurance contributions if profits are below the Small Profits Threshold
• may have to pay Class 4 National Insurance contributions if profits exceed HMRC’s Lower Profits Limit
• is required to file a self-assessment return
• will be responsible for registering their business with HMRC

Read advice on how to register as a sole trader.

Why should I choose to be a sole trader?

A sole trader business is the most simplified business structure. The advantages include:

• Being your own boss. As a sole trader, you do not need to answer to anybody; you are in control of what you do
• Simple to get started. It is relatively easy to register as self-employed with HMRC, whereas there is generally more administration involved in setting up and running a limited company.
• Low setup costs. Setting up as a sole trader is usually straightforward and often requires less professional support than forming a limited company. There is also no need to register with Companies House or pay company incorporation fees.
• Simpler accounting. Accounting and tax reporting requirements are generally less complex than for a limited company. You will normally need to keep records of your business income and expenses and submit a Self Assessment tax return, but you will not need to file annual accounts or a Corporation Tax return.
• Claiming tax relief on business purchases. You may be able to claim tax relief on qualifying business expenses and certain assets used in your business, such as equipment, machinery or business vehicles, helping to reduce your taxable profit.
• Keeping the profits. As a sole trader, you keep all the profits your business makes after paying tax and any other liabilities.
• Privacy. Unlike limited companies, sole traders do not have to place financial information on the public Companies House register, so details of business profits and finances remain private.

How do I earn income as a sole trader?

As a sole trader, you earn income through the profits generated by your business.

Money that you take from the business for personal use is known as drawings. As there is no legal distinction between you and your business, you can take drawings from the business as and when you need to.

While you do not pay tax on drawings themselves, you will pay tax and National Insurance based on your business profits. It is therefore important to keep sufficient funds aside throughout the year to meet your tax bill when it becomes due.

The profit you make from your business (typically your income less allowable business expenses) is reported to HMRC through a Self Assessment tax return. Depending on your level of income, you may need to comply with Making Tax Digital (MTD) for Income Tax. This means keeping digital records and sending regular updates to HMRC using compatible software. Check HMRC’s guidance to see whether and when MTD requirements apply to your business.

Making Tax Digital (MTD) for Income Tax is being introduced in stages, so if it doesn’t currently apply, 31 January following the end of the tax year is the normal deadline for filing an online tax return and paying any tax due. You may also need to make payments on account, which are advance payments towards your next tax bill.

Keeping accurate records and using accounting software can help you track your profits and estimate your tax liabilities throughout the year.

An accountant can help you understand your tax obligations, plan for future tax payments and manage your business finances effectively.

What are my responsibilities?

It is your responsibility to tell HMRC that you are self-employed and need to register for Self Assessment. In most cases, you must register by 5 October following the end of the tax year in which you started trading.

You are also responsible for submitting any required tax returns, keeping accurate business records and paying any tax and National Insurance due by the relevant deadlines.

Depending on your income and circumstances, you may also need to comply with Making Tax Digital (MTD) for Income Tax, which requires eligible businesses to keep digital records and submit information to HMRC using compatible software.

As a sole trader, it is your responsibility to keep records of your business income and expenses, including:

• sales invoices and receipts
• purchase invoices and supplier receipts
• receipts for business expenses
• business bank statements
• records of business mileage and vehicle expenses, where applicable
• VAT records (if registered for VAT)
• payroll records if you employ staff
• details of assets used in the business, such as equipment, machinery and vehicles
• records of business loans and other financing

Business records should be kept safely and securely. HMRC has rules about how long records must be retained, and records may need to be kept for longer in certain circumstances.

What are my risks if the business fails?