When Should I Change From a Sole Trader to a Limited Company?

Forming a limited company might be the best route for your business. It is a business structure that can protect you as an individual. Here we guide you through some essentials, exploring when you should change and why this might be of advantage to you.


Sole Trader and Limited Company definitions

You will have started your business as a sole trader by default. It is how most single-person companies start as they manage the losses and taxation on a personal level. A sole trader is a simple business structure where the business is owned and operated by you, and there is no legal distinction between you and your business.

By contrast, a limited company is a business structure where the company has a legal identity separate from you as an individual. It is also distinct from the shareholders and the directors. There are two consequences to this. First, should your business get into difficulties, your accounts are separate from the money within the company. Second, you will not be allowed to take money out of the limited company whenever you want.

When should I change business structures?

The move to a limited company is a good option for most new businesses. Any structure that offers personal protection to your individual finances is a sound move. It might feel like a serious undertaking, as it takes what might seem like your “hobby” business to something more formal. Consequently, it feels like it is something to be feared.

However, the legal and financial implications of working as a sole trader still exist. Therefore, moving to a limited company structure as soon as you can has significant advantages. If you have submitted self-assessment taxes for your business for a full tax year, then you should probably be considering the change to a limited company.

Why should I change business structures?

You may live by the mantra: “If it isn’t broke, don’t fix it!” You may feel working as you are is succeeding for you. It is clear to you when money is coming in, and you can easily manage the accounts of outgoings. Therefore, it might seem counterintuitive to move from something simple to something that feels more complicated. However, there are some significant advantages to being a limited company (LC).

Mostly, it’s vital to think about how much tax you are paying. This calculation will likely give you a better incentive to make a move to limited company status. As a sole trader, you are taxed personally. If you earned over £150,000 a year, you could be taxed up to 45% of your company profits. However, if you change to LC status, you will be liable to pay corporation tax, which currently stands at 19%

Remember, your personal allowance is a maximum of £12,500. After this personal allowance, you will pay a basic rate of 20% up to £50,000. Anything over £50,000 is taxed at 40%. This rate is substantially higher than that you would pay as an LC, even from small beginnings.  You will also be liable to pay class 2 and class 4 National Insurance.

You will be able to pay yourself from the company in dividends. You cannot take this option as a sole trader, which means you lose more of your earnings to taxation.

However, remember it will also mean you are no longer personally liable for the debts the company incurs. If things go wrong, you won’t find yourself significantly out of pocket. As the success of your business is not dependent on your efforts, you have a form of insulation that a sole trader does not enjoy.

Consequently, the answer to when a sole trader should change to a limited company, the answer is simple: as soon as you are making a regular income from your business.

Why not give us a call on 01244 831277  or email us to learn more about changing your business structure. We would be pleased to talk you through the potential advantages to your company.