Starting a business is often a complex affair, with the main decision being whether to become a sole trader or set up as a limited company. There are advantages and disadvantages to both, although becoming a sole trader is much more straight forward. However, as a sole trader you will bear all the responsibility for the business, legally and financially. A limited company is a separate legal entity to the directors, limiting the liability if things go wrong.
Setting up a business as a sole trader means that you have full responsibility for all the risks and benefits of the business. This also means that you are responsible for business debts if anything goes wrong. As you are the business, you will be liable to pay any resulting losses or debts from the business, which could result in you losing your personal assets. Conversely, any profits you make after payment of tax are yours to keep. The administration of a sole trader is fairly straight forward, with one set of accounts to be submitted on an annual basis, along with a self assessment tax return. If you are liable to pay Value Added Tax, you will be required to submit a VAT return. If you have employees you will operate a PAYE scheme and a payroll. As the administration of a sole trader is less complex than a limited company you may find accounting costs a little lower.
As a sole trader you can run your business as you wish, with no requirement to make information available to the public. However, as a business grows the sole trader may find that they have increased exposure to the possibility of risk, which could adversely affect personal assets. The tax paid by a sole trader is significantly higher than a limited company. Expenses and tax reliefs are deducted from profits of the business to leave the net profit. Tax is paid at the same rates as an employee. A sole trader may find that the business credit rating is affected by their personal credit rating, which could make it difficult to obtain business finance. It is often much harder for a sole trader to raise business finance, as a fairly new business may be seen as less able to repay loans.
A limited company is owned by its shareholders and has a separate legal entity from the company owners. This limits the liability of shareholders for company debts, protecting personal assets. Personal liability is typically restricted to the share amount of the share holders. Business finance is usually much easier to obtain for a limited company, as creditors and investors know that the company is legally regulated and registered, presenting a professional and trustworthy image to the world. Raising business finance is also much easier as shares in the business can be sold in order to raise investment capital. The investor buys shares in a business in return for a share of the profits, known as a dividend.
A limited company doesn’t have the freedom to act as they wish or keep all business information private. Some information has to be registered with Companies House, like the company’s annual accounts which are free to be inspected by members of the public. Administration expenses of a company are higher, as company law and resulting administration is far more complex than that of a sole trader.
There are many advantages and disadvantages of starting a limited business or becoming a sole trader. It is advisable to consult a professional so that you can make an informed decision based on the facts of your intended business.
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Disclaimer: The information contained in these articles is of a general nature and no assurance of accuracy can be given. It is not a substitute for specific professional advice in your own circumstances. No action should be taken without consulting the detailed legislation or seeking professional advice. Therefore no responsibility for loss occasioned by any person acting or refraining from action as a consequence of the material can be accepted by the authors or the firm.