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What Do I Need To Consider When Choosing A Business Structure?

Empty meeting table in a boardroom

If you’re thinking about going into business, one of the first things you need to consider is which legal structure you want to operate under. 

Each of the different legal structures has its own tax implications, reporting requirements and management structure.

So before you make the decision, we’ve provided you with some information to keep in mind.

Sole Traders

Sole traders run their own businesses and work on a self-employed basis, whether this is as a freelancer or a contractor.

Despite being named as a sole trader, it is possible to employ others to work for you; however, this does come with additional responsibilities.

What are the implications?

The running of the business is left entirely up to the sole trader, this includes all of the tax requirements.

When running a sole trader business, there is no differentiation between the business and the individual. If the business ends up in trouble, it is the responsibility of the sole trader to bear all of the legal and financial responsibility.

On the plus side of all this, any profit that is made by the business belongs to the sole trader.

Are there advantages?

There are four main advantages when you register as a sole trader:

  1. There is very little form-filling required
  2. You keep all profit that the business makes after tax
  3. You have full control over the business
  4. There are fewer accounting obligations, all you are required to keep is a complete profit and loss account.

Are there disadvantages?

There are two main disadvantages when registering as a sole trader:

  1. You are personally liable for any debts that are incurred by the business
  2. In the eyes of the law, you and the business are the same entity, which means that any legal issues will also fall back on you personally. This includes any time you might be sued by a customer.

How does it work with taxes?

You will need to register with HMRC and subsequently fill out a tax return every year. All the profits that you make will be classed as income and taxed accordingly.

Also, you will need to pay Class 2 National Insurance Contributions regardless of the profits made by the business.

Additionally, you will need to pay Class 4 National Insurance Contributions on the profits that you do make.

Limited Companies

Directors of limited companies are classed as separate entities from the company. This is through what’s known as Limited Liability.

Having Limited Liability means that all legal obligations relating to the company are the sole responsibility of the company, rather than the owners. This level of protection can make limited companies appear to be an attractive set-up for company owners.

What are the implications?

The company will have its own bank account and will be subject to Corporation Tax. Corporation Tax will need to be paid on all the profits made by the company and there is no tax-free allowance. However, there are allowable expenses and deductions that you can use to lower the amount of Corporation Tax you would have to pay.

Are there advantages?

There are four main advantages of running a limited company:

  1. There is Limited Liability from the company, so all legal and financial responsibilities lie on the shoulders of the company, rather than the directors; unless the director has personally guaranteed any loans, in which case they would be the responsibility of the director.
  2. Customers and suppliers see a limited company as more trustworthy than a sole trader.
  3. It can be easier to raise finance as a limited company.
  4. It can be easier to sell the company if you decide to.

Are there disadvantages?

There are two main disadvantages to running a limited company:

  1. There is more administration involved than with a sole trader, for example, you will need to keep full accounting records and submit your annual accounts to HMRC through your accountant.
  2. There are more fees involved in setting up the company than there are for a sole trader.

How does it work with taxes?

The company itself will have to pay Corporation Tax on all of its profits. As well as that, you, as director, will have to pay tax on any salary that you take from the company, as well as pay tax on any dividends that you take. Additionally, you will also have to pay Class 1 National Insurance Contributions.

Register your limited company today!

Summing Up

We’ve covered some of the things you need to know before deciding whether you should set up your business as a sole trader or a limited company.

You need to carefully consider each of the implications before you make a decision about which set-up you should be using.

If you want a quick way to start a business with only minimal paperwork, then a sole trader may be the way to go. However, if you want to be seen as more trustworthy, then it might be better to start out as a limited company.

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