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 income tax on profits
• will have Class 2 contributions treated as having been paid if profits are more than £6,725 a year. With profits lower than £6,725 a year, sole traders can choose to pay Class 2 contributions
• will have to pay Class 4 contributions if their profits are more than £12,570 a year
• 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 also relatively easy to register as a business for tax purposes, whereas there is more administration involved with setting up a company
• Low setup costs. Setting up as a sole trader is a fairly straightforward process and requires less professional help than if you were forming a limited company. Also when setting up as a sole trader there is no need to pay fees to Companies House.
• Simpler accounting. The accounting process is much more straightforward if you’re registered as a sole trader. You’ll need to submit a self assessment tax return, but there will be no need to file annual accounts or a Corporation Tax Return
• Claiming allowances. You can claim capital allowances when you buy assets that you keep to use in your business, e.g. equipment, machinery or business vehicles
• Keeping the profits. As a sole trader, you can keep all profits (rather than having to share with partners)
• Privacy. A limited company’s published accounts can be accessed and viewed from records held at Companies House. As a sole trader, your personal details and financial information are not published and therefore remain private.

How do I earn income as a sole trader?

As a sole trader, you will earn your income by carrying out your trade.

Your salary will be drawings which are taken out of the business. As a small business owner, you should pay yourself at least enough to live on. It’s also advisable to draw a regular salary – waiting to take money out only when you need it and then taking out a large amount could catch the attention of HMRC.

While you won’t pay tax on any drawings taken, tax will be assessed on the profits of the business. It is vital to ensure you leave enough money to pay the tax on profits. If you think your profits for the year will be less than £50,000, then keep 20% of your total earnings aside for tax. If profits are more than this, you will need to hold over a higher percentage.

The tax due on the profit that you make (simply put, the sales that you make less your business expenses) will be reported to HMRC through self-assessment. The deadline for filing your return and paying your tax will be 31 January following the tax year that your accounts fall in. You may need to make payments on account – if you use accounting software this will calculate these for you if they are due.

Your accountant will be able to advise you on how best to take your drawings and your responsibilities regarding paying tax.

What are my responsibilities?

It is your responsibility to inform HMRC once you have started trading. The deadline to do this is 5 October following the tax year in which you started trading.

You also must file your tax returns and pay your tax.

As a sole trader it is your responsibility to ensure that you keep all of your business records such as:

• sales invoices and purchase invoices
• fuel receipts
• receipts for business expenses
• business bank statements
• cheque book stubs
• VAT information (if VAT registered)
• wage slips and summaries if you employ staff
• details of loans and capital items such as machinery, cars etc.

Books and records should be kept safely – there are rules surrounding how long business records must be stored for.

What are my risks if the business fails?

As a sole trader, you have unlimited liability. This means that you are personally responsible for the debts that the business has.

Many individuals who have traded as sole traders have had difficulty when this business fails as they have had to find the funds to pay any debt that the business has.

If you require advice regarding debt visit Business Debtline’s website.