Simple Guide to Choosing the Right Business Structure (Pro Tips)

Should You Be a Sole Trader or Start a Limited Company?

Starting a business is exciting. But when it comes to choosing between a sole trader or a limited company, many new business owners struggle with this decision, unsure which option will help them earn more while keeping things simple.

Get it wrong, and you could end up buried in paperwork, paying more tax than necessary, or missing out on business opportunities.

In this guide, we’ll break down the differences between being a sole trader and running a limited company. By the end, you’ll have a clear understanding of which option best suits your goals - helping you keep more of your hard-earned money, avoid unnecessary stress, and determine the best time to switch if you're already a sole trader.

What is a Sole Trader?

A sole trader is a self-employed person who owns and runs their business. There is no legal separation between the business and the owner. It is the simplest and cheapest way to start a business in the UK.

Key Features:

• The business owner keeps all profits after tax.

• Simple registration with HMRC.

• Must submit a Self-Assessment tax return each year.

• Personally responsible for all business debts and liabilities.

Case Study: Emma’s Freelance Cupcake Business

Emma, a baker in Manchester, always dreamed of running her own cupcake business. In 2022, she left her job and set up Emma’s Cupcake Creations as a sole trader. She chose this structure because it was quick, easy, and cheap to start. She didn’t have to worry about complex paperwork and could focus on selling her cakes.

At first, things were great. She sold her cupcakes at local markets and online. However, as demand grew, she needed to invest in a commercial oven, a delivery van, and bulk ingredients. To do this, she took out loans and supplier credit agreements.

She also started supplying corporate clients, but some big companies preferred to work with limited companies because they saw them as more professional and reliable.

Then, things took a turn. One of Emma’s biggest corporate customers failed to pay for a large order, leaving her with a cash flow crisis.

Since Emma was a sole trader, she was personally responsible for the business debts. Her creditors—including the van leasing company and suppliers—had the right to demand payment from her personal savings. If she couldn’t repay them, they could take legal action to seize her van or even her home.

She also worried about legal risks. If someone became ill after eating one of her cupcakes and sued her business, she could be held personally liable. If the case was serious and she lost, she might even face bankruptcy.

This made her consider whether staying a sole trader was the best choice long term.

Pro tip. Safeguard your personal finances by securing business insurance—especially if you're a sole trader. It’s a smart way to protect yourself in case things don’t go as planned!

Benefits of Being a Sole Trader

• Simple and quick to set up and dissolve - only need to register with HMRC.

• Simple tax process - just file a Self-Assessment tax return once a year.

  Note. This is changing in 2026 for businesses over £50,000 in revenue. Making Tax Digital for Income Tax is a hot topic, and we are working on an article about it. Sign up to get the latest blog releases, case studies, useful tips, and our offers!

• Full control - you make all the decisions and keep all profits after tax

• Easier to withdraw money - by law, there is no need to separate business and personal finances, but it is a good idea to do so. It will make tax returns easier and give you the ability to understand how your business is performing.

• Your private data and earnings are not on the public register like Companies House and are not accessible to the public.

Disadvantages of Being a Sole Trader

• Personal financial risk - f your business owes money, you’re personally responsible for paying it back.

• Higher tax for higher earnings - if profits exceed £50,271, you pay 40% tax on earnings above this threshold and 45% on earnings over £125,140.

• Perception and credibility - some larger clients prefer working with limited companies.

• Harder to raise money - banks and investors often prefer to fund limited companies due to the clear structure and limited liability.

What is a Limited Company?

A limited company is a separate legal entity from its owner. This means that if the company owes money, you’re not personally responsible for it (unless you have given a personal guarantee).

Running a limited company involves more paperwork, but it can save you money on tax and make your business look more professional.

Key Features:

• Owners (shareholders) are separate from the business.

• Limited liability—Personal assets are protected.

• Pays Corporation Tax on profits instead of Income Tax.

• More admin requirements, including filing accounts with Companies House and confirming company details on an annual basis.

Case Study: John’s Construction Business

John had been working in construction for over a decade when he decided to start his own business in Birmingham. As a sole trader, he found it easy to set up—there was no need for complex paperwork, and he could start taking on jobs right away.

At first, John worked on small home renovation projects, mostly relying on word-of-mouth referrals. He handled everything himself—ordering materials, managing projects, and dealing with clients directly. Business was steady, and being a sole trader allowed him to keep things simple and minimise costs.

As John’s reputation grew, larger clients started approaching him for commercial projects. One day, a property development firm contacted him about a £150,000 office refurbishment project.

John realised that managing larger projects as a sole trader came with financial risks. If a project ran over budget or a client delayed payment, he would be personally responsible for covering the costs of his suppliers.

He also faced higher taxes as his income increased. As a sole trader, his profits were subject to Income Tax at 40% once he earned over £50,270.

To secure bigger contracts and improve his financial position, John decided to incorporate his business as a limited company. This change brought several benefits:

• More professional image – John gained the opportunity to bid for higher-value contracts.

• Improved business credibility – clients and suppliers saw his company as more stable, which helped him negotiate better deals with suppliers and banks.

• Limited liability protection – any company debts would belong to the company, not to him personally.

• Tax on profits can be lower – instead of paying 40% or 45% Income Tax, his company now paid Corporation Tax, which is 19% on profits up to £50,000 and increasing up to 25% on profits above £250,000. This saved him thousands of pounds per year.

• Easier to hire employees – John wanted to expand his team, and being a limited company made it more attractive to skilled workers.

By making the switch at the right time, John positioned his business for long-term growth and financial stability, allowing him to focus on expanding his company rather than worrying about tax burdens or financial risks.

As we saw in John’s example, forming a limited company can bring a number of benefits; however, it has a few challenges too:

• Registration process is more complex - limited company must be registered with Companies House, have a unique company name, appoint directors, and register for Corporation Tax with HMRC.

• More paperwork and admin – annual accounts, tax returns, and Companies House filings.

• More rules to follow – directors must comply with strict company laws.

• Less privacy – company details, including finances, are visible to the public.

• More complicated tax – you may need an accountant to help with company taxes.

Pro tip. If you are planning to run a simple, low-risk business such as freelancing, hairdressing, plumbing, or a small retail or coffee shop, start as a sole trader and change the structure as you grow.

Continue reading to find out when to make the switch.

Tax Differences: Which One Saves You More Money?

One of the biggest reasons people switch from sole trader to limited company is tax efficiency.

Sole traders pay Income Tax on their profits, which can be 20%, 40%, or 45%, depending on how much they earn. They also pay National Insurance contributions.

Limited companies pay Corporation Tax on profits (currently 19% on profits up to £50,000 and scaling up to 25% for larger businesses). The owners (directors) can then pay themselves a salary and take money from the business as dividends, which can be taxed at a lower rate than a salary.

When Does a Limited Company Become More Tax-Efficient?

• If you earn below £40,000, remaining a sole trader is often simpler and just as tax-efficient.

• If you earn above £50,000, setting up a limited company can save you money, as Corporation Tax rates can be lower than personal Income Tax.

Pro tip. Once your sole trader business approaches £40,000 in earnings, it’s a good time to consider a new structure. Your accountant can assess your situation and advise on the best time to make the switch.

Don’t have an accountant? Contact us today.

Which One is Right for You?

A sole trader is better if:

• You’re starting a small business with little risk.

• You want to keep admin and paperwork simple.

• You don’t expect to earn over £40,000 in the near future.

A limited company is better if:

• You want to protect your personal money.

• You want to appear more credible and take on bigger clients.

• You want to save on tax if earning over £40,000.

There’s no one-size-fits-all answer. The best structure for your business depends on your earnings, risks, and long-term goals. Whatever you decide, choosing the right structure now will save you time, money, and stress in the future.