Sole Trader vs Company Director – What is right for me and my business?

When setting up in business it can be difficult to know the best structure to use. Maybe you have heard friends and family saying categorically that one is better than the other, but it all depends on the type of business you run and level of liability you are willing to accept.

Each option has its own distinct advantages and drawbacks, with tax, funding options, administrative procedures, and flexibility of operations all being relevant. To get a better idea of which might be the right choice for you and your business, here are some of the main factors to consider.

Setting up procedures

Sole trader
Setting up in business as a sole trader is the most straightforward option. You simply need to register as self-employed with HMRC, and take out any necessary forms of business insurance. It’s worth bearing in mind, however, that your business name is not protected as a sole trader.

Company Director
Setting up a limited company is a little more complex. You need to choose a company name, which is registered at Companies House along with your incorporation paperwork. The name is placed on the Register of Companies, and protected from use by other businesses. You receive a certificate of incorporation specifying the date of incorporation, and including your unique company number.

Income levels

Sole Trader
As a sole trader, you take out ‘drawings’ from your business which are taxed as income. In general, the income level of a sole trader will be comparatively lower than that of a company director, who has the opportunity to extract money via dividend payments at a lower rate of tax.

Company Director
Company directors are also often employees of their company, and as such, take a monthly salary via the PAYE system. A proportion of your remuneration as a director will also be made up of dividend payments which do not attract as much tax. Therefore, it can be more lucrative to be a company director than operate as a sole trader, but with that comes specific legal duties and responsibility.

Ongoing administrative responsibilities

Sole Trader
Your main responsibility as a sole trader is to complete your annual self-assessment tax return. If you reach the VAT threshold you’ll need to register for VAT, and it’s also advisable to keep your personal finances separate from those of your business. Apart from these requirements, however, there are very few specific administrative responsibilities when you’re a sole trader.

Company Director
As a limited company director, you’ll have a range of fiduciary and statutory duties and obligations. These include submitting an annual corporation tax return, company accounts, VAT returns if applicable, and an annual confirmation statement (formerly the annual return) which provides details for the public record about the company and its directors.

Paying tax

Sole Trader
You pay income tax on taxable profits via the self-assessment tax system, plus Class 2 and Class 4 National Insurance contributions. There aren’t as many tax deductible costs and allowances available to you when compared with limited company directors, and you’re unable to defer your profits to future years.

Company Director
Limited companies pay corporation tax on profits over a certain level, and benefit from a range of tax reliefs, allowances, and tax deductible expenses. Corporate tax affairs are more complex, and many company directors choose to hire an accountant to ensure their HMRC obligations are met.

Personal liability

Sole Trader
You are personally liable for all the debts of your business, which could result in the loss of personal assets if the business becomes financially unstable. You can be sued personally as a sole trader, which is why it’s important to take out business-related insurances such as professional indemnity and employer’s liability if appropriate.

Company Director
The company is viewed as a separate legal entity, so your personal liability is limited to the amount you’ve invested in the company. You must meet the statutory and fiduciary duties required of the office, however, otherwise there is a chance that the ‘veil of incorporation’ will be lifted.

Funding options

Sole Trader
In general terms, funding can be more difficult to obtain as a sole trader, as banks and other ‘traditional’ institutions tend to favour the relative security of dealing with a limited company. This could potentially limit your opportunities to grow the business.

Company Director
You’re able to borrow money from your own company, with certain limitations. If the loan is not repaid within nine months of the accounting year-end, it will be treated as a taxable benefit (interest-free loan).

Author Bio
Keith Tully is partner at Real Business Rescue; part of the Begbies Traynor Group. Keith has over 25 years’ experience advising company directors on issues such as insolvency, finance, and personal liabilities.

If you’re thinking about starting a business, or you’ve already made the first steps, we’re here to help. We’ve got free expert advice, tips and guidance to support you at every stage. Take a look at how Sage One can set you off on the right track.