What is a Sole Trader?
A sole trader is an individual who operates a business on their own. They will still be classed as self-employed, however, they will also be the sole owner of the business they work for.
When you are a sole trader there will be no legal distinction between yourself and your business. You and the business will be classified as a whole unit. This can often mean that personal finances will be that of your business.
As a sole trader you will held responsible for:
As a sole trader, you will also be held personally liable for any business debts. Any personal assets can be at risk if you fail to pay creditors on time.
Differences Between a Sole Trader and a Limited Company
Being a sole trader falls under the same category as being self-employed, the difference is however that they are the sole owner of their business.
A limited company director would not be classed as self-employed as they are classed as an employee of the company and will usually be paid a salary like other employees. This is different for sole traders.
Limited company owners have limited liability, however, sole traders usually have full liability over their businesses, especially when it comes to its finances.
Limited companies can be more tax-efficient, they only need to pay corporation tax and dividend tax. A sole trader will need to pay tax on any profits that exceed their personal tax.
As a sole trader, you are not obligated to prepare annual account reports. However, a limited company will need to file annual account reports with the Companies House.
Customers and clients often perceive limited companies as more professional. So they can build a good reputation faster than a sole trader.
Advantages of being a Sole Trader
Being a sole trader comes with several advantages like:
- Control over the business
- Flexibility in operations
- Set-up costs can be kept low
- Accounting is simplified and costs are lower
- Business privacy
- Allowances for Tax on business assets and expenses
- Retention of profit
- You can change your mind with ease
- Regulations are less strict
- Staffing management is not often required
- Swift decision making
Disadvantages of being a Sole Trader
Then there are disadvantages to being a sole trader such as:
- You are fully liable for debts
- Larger contracts can be harder to bid for
- Scaling a business individually can be difficult
- Buying power cannot be leveraged due to business size
- If you have no staff, then business would halt should you fall ill or have an accident
- Limited knowledge, may need to buy in more if you lack it
- Finance access is limited
- Business continuity can be limited
- Limitation on tax planning
Are you having financial struggles as Sole Trader and Need Advice?
Sole Trader Tax
When you set up as a Sole Trader there will be a number of tasks you will need to carry out when it comes to tax. These are:
- Keep records of your business’s sales and expenses
- Complete and send off a self-assessment tax return every year.
- You will need to pay income tax on your profits and Class 2 and 4 national insurance.
As a sole trader, you will be required to pay tax on business profits (minus expenses). Also, should you sell any assets or the business, then you will be taxed on any monetary gain.
You can apply for tax relief as a sole trader. This would be for expenses incurred and exclusively for the business.
Compared to a limited company, a sole trader will have different tax implications. Such as the following:
- There will be fewer options for pension plans
- Sole traders will have no requirements when it comes to preparing accounts
- Profits can be withdrawn with fewer tax requirements
- Sole traders have full responsibility over any insolvency
- Can claim deductions on mortgage interest rates
- Company cars, fuel, computers and mobiles all have different tax requirements
- No tax-free benefits and incentives
Registering for VAT as a Sole Trader
Registering for VAT is dependent on your annual earnings as a sole trader. If you find that your annual turnover exceeds £85,000 then you will need to register for VAT. There is an option to register before you reach this threshold. If you predict you will make more than this amount in the year. You have the option of registering for VAT from the start if you so wish.
When you have registered for VAT you will be given a registration certificate and a VAT number. With this, you will also be given the date that you need to submit your first VAT return by.
Your certificate should also show your ‘effective date of registration’ This will be the date you went over the £85,000 threshold or the date you asked to register for VAT.
When charging VAT you will need to ensure you are charging the right rates. Usually, this is 20% on top of the original price. There is also a reduced rate of 5% which is for items such as car seats or services such as energy. And a 0% rate for most food and children’s clothing.
It is also important to include added VAT on any invoices and receipts you provide to customers. This should also be added to your VAT return to HMRC.
Registering as a Sole Trader
As a sole trader, you will run your own business and will be classed as self-employed. When registering as a sole trader there are certain rules to follow, especially when it comes to naming and running your business.
You will need to set up as a sole trader if any of the following apply to you:
When you are registering as a sole trader you will need to come up with your trade name. You will be able to trade under your own name or choose something different for your business. You do not need to register your name.
However, you must include your name and business name (if you choose a different trade name) on official paperwork, such as invoices, letters etc.
When choosing your business name there are a number of rules to follow:
Sole Trader Insolvency
Being a sole trader does not make you immune to financial difficulties. Similar to a limited company, it is still possible for you to become insolvent.
However unlike a limited company, as a sole trader, should you become insolvent then your home and livelihood could be at risk. This is due to you being solely responsible for your business finances. So personal assets can be taken into consideration when paying back debts.
Being insolvent means that you can no longer pay off the debts you owe. For a limited company, the options are different from those of a sole trader.
When you start to lose control of your financial situation. It is important you seek advice from a professional insolvency practice, such as Anderson Brookes. We can help advise and provide the best available options for you.
If you wish to keep trading but need a way to manage to pay back your debts then here are a couple of options:
- Taking out an Individual Voluntary Arrangement
- Putting together a debt management plan
- Debt relief orders
- Debt consolidation