Making the Switch from Sole Trader to Limited Company

Changing from a sole trader to a limited company is a big step for your business — but what exactly is the difference? Let’s discuss what distinguishes a limited company from a sole trader, and how your business could benefit from making the switch.

Chances are, if you’re running your own business, you’ve considered whether it would be better to move from a sole trader to a limited company. The thought of changing your business structure is a big step to take. In fact, you may have already decided that this is the right move for you — but what is the difference? 

 

In this article, we will discuss the key differences that distinguish between a sole trader and a limited company, and how your business could benefit from becoming a limited company.

Get a good management team when switching to a limited company.

Sole trader vs. limited company

What business structure is right for you is dependent on your business’s current operations and direction. Many small businesses start off as sole traders but then transition into limited companies once they see an increase in earnings. The general advice is to stay as a sole trader while your earnings are low, this also makes processing tax much easier. One exception is if you need certain benefits for your business, such as limited liability

Sole trader

A sole trader is a self-employed individual who runs their own business. As a sole trader, you don’t have a legal identity that separates you as the business owner and the business itself. As a result, this impacts your tax responsibilities and statutory obligations. 

There are many benefits to starting a business as a sole trader. You have complete control over your business, its assets and profits after tax. The business model is also not reliant on other key players, making managing operations much more adaptable for when you have to make quick-time decisions. Additionally, a business run by a sole trader generally has a personal touch as they are closer to their customers and can easily attune to their needs. 

Limited company 

With success as a sole trader, however, comes greater responsibilities. There is a limit to how much one person can do — eventually, a larger team and more complicated systems need to be put in place to keep up while still making a profit. Additionally, you may find yourself spending more on taxes than necessary. By switching to a limited company structure, you can save yourself a lot of tax money in a number of ways. 

A limited company (LC) is a type of business structure that limits the liability undertaken by the company’s owner and shareholders. This is because the owner’s assets and income are separate from the business’s income and assets. This also means any debts of the company are separate from the owner’s.

Benefits of becoming a limited company

Certain business structures may be more suitable for you depending on the type of business you run. If this workload is doable for one person, then working as a sole trader may be more beneficial for you as you have complete control over your business’s accounts and operations. However, switching to a limited company comes with a range of benefits — especially if you are looking to scale or further growth.

Tax differences 

Tax is processed differently, as the business is now a separate entity within a limited company, but this can result in better tax savings. The main difference is the introduction of Corporation Tax, and limited company directors are required to complete the company’s Corporation Tax bill. Additionally, there are multiple ways you can lower your Corporation Tax and you can claim tax relief on a variety of business-related expenses. 

As the owner of a limited company, your income is sourced from dividends and a director’s salary (or other benefits). Dividends are taken from the profits of your company after Corporation Tax has been paid.

Benefits of switching to a limited company includes saving on tax.

Finances

Limited companies are required to have a separate bank account as that money belongs to the company and not the director. As a sole trader, there is no distinction between the business and you as the business owner. While having full control over your business’s accounts has its perks, it leaves you very vulnerable in the case of losses or any claims made against your company. 

The cost of running and managing a limited company is surprisingly similar to operating as a sole trader. However, other financing options become more feasible for you once you become a limited company. Forming a limited company generally brings in better credibility and reputation, reinforcing a stronger case for funding.

Business owner switching from a sole trader to a limited company.

Making the change

So, you have decided to change to a limited company. The first thing to consider is who will be the director of the new company. If you’re the one who set up the business, then usually you would appoint yourself as the director. However, being a limited company director has certain legal obligations and it’s your duty to file important documents such as tax returns and statutory accounts. You may be in a position where you’d rather pass on this responsibility to someone else. Things can also get more complicated if you’re working alongside a partner, spouse, family or shareholder. In this situation, it is best to get a professional accountant involved to decide what would be best for you and your company. 

To officially register your limited company, you have to pay a small incorporation fee to Companies House. You should then get in touch with HMRC to inform them of the change to your company structure. At the same time, let them know that you are no longer self-employed as a sole trader and that you will be working as the director (if that’s what’s been decided) under the new company formed. You should then inform your accountant of the change so they can adjust any tax calculations.

Accounting for limited companies

During the formation of a limited company, having a professional accountant working alongside is tremendously useful. Setting up a new company and the registration of new accounts can be a huge hassle for anyone, but an accountant can support you through this process. 

At Wilkinson Accounting Solutions, we are a business accounting and consultancy firm that specialises in business formation. Our team of professional accountants will provide you with expert advice, determining the best structure to suit your business and personal circumstances. Our services include profit analysis, VAT overview, the transfer of any assets, and setting up the business on Companies House and/or HMRC. To learn more about how we can benefit your business, get in touch with us today.

A professional business accountant advising and bookkeeping for a business owner.

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