Limited Company or Sole Trader?
Limited Company or Sole Trader?
Limited Company or Sole Trader?
There are advantages and disadvantages with starting a business either as a limited company or a sole trader. Operating as a sole trader gives the advantage of requiring little in terms of administration. You must register as being self-employed with the Inland Revenue within the first three months of trading and you will pay Self Assessment Tax as well as national insurance. As a sole trader you are personally responsible for any monies owed to government or creditors and hence your personal assets including your home can be at risk.
There are a few reasons why forming a limited company may be the better option for you.
Firstly, with a limited company there is "limited liability" to the company and hence in the event that the company struggles to pay its creditors and/or the government then the personal assets of the director(s) are not at risk. Secondly, the perception of being a limited company tends to be better than that of being a sole trader. With a limited company there is a perception that the business is perhaps more serious, more professional, better managed and perhaps has longer term business objectives. It's also believed that credit from banks or suppliers may more readily be offered to limited companies.
Taxation is also a consideration when deciding whether to form a limited company or operate as a sole trader. A limited company will pay corporation tax on all profits (after salaries) and for small companies this currently stands at 21% (on profits up to 300K) whereas a sole trader will pay income tax. The taxation advantages of a limited company come from flexibility in determining the proportions of salary paid and dividends paid, and the sole trader must pay income tax at the fixed thresholds. A limited company can pay dividends out of the company profits. Hence there are significant limited company tax advantages over a sole trader in the case where net income is less than the 40% upper earnings threshold. The limited company advantages increase where the net taxable profit amount is above the 40% upper earnings threshold for income tax, since the tax rate for limited companies and on dividends payments, is less than the 40% higher rate income tax rate.
The cost with producing sole trader accounts is less than with a limited company since with a sole trader there is no requirement for a formal accounting system and the production of a balance sheet is optional. With limited company accounts there are more statutory obligations and it is likely that you will need to enage an accountant who has all the required knowledge; this of course increases your annual costs.
There are also a few other financial differences relating to pensions, vehicles, donations and some other expenses which can be dealt with differently for accounting purposes for limited companies as with sole trader accounts. So the duties of a director of a limited company are more formal than those of a sole trader and your decision of which way to proceed may depend on your own particular circumstances. Many businesses start off as a sole trader and form a limited company after they have been trading for a while and this process is quite straightforward.
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