Choosing between becoming a sole trader and starting a limited company can be tough when you start out. As a sole trader and under limited company status, you can continue your employment with your current employer, who does not have to know your business.

Sole trader

Becoming a sole trader is one of the best ways to start a one-person business. However, within three months of starting your business, you have to register with HM Revenue and Customs.

Being a sole trader means making all the business decisions and keeping the profits your business earns. It has its downside, as well that you should be aware of. If you run up business debts, you will be responsible for repaying them and this could put your assets and home at risk.

You will have to pay income tax on the profits. When it comes to your annual tax return at the end of the tax year, you would have to fill out the Self Employment section in the return. Income tax on Self Employment can be paid in two instalments, once on 31 January and the second on 31 July.

You also have the option of shifting from being a sole trader to limited company status. This shift comes with its own set of financial, administrative and legal implications.

Limited company

The biggest advantage of opting for a limited company status is being able to protect your assets in case of debts and financial problems. Your liability will be restricted to the cost of the shares you own. In addition, if you want funds to expand your business, banks will view you more favourably. You also can issue shares to raise capital.

Another advantage of limited company status is the impression it creates. Since your business and personal finances are separate, it will come across as more prestigious, reliable and professional by customers and suppliers.

With a limited company status, you become an employee of the company. Hence, you would have to complete form P46. Here you will be asked about your main employment. If you are still gainfully employed, the answer would have to be no. Thereafter, the HMRC will issue a Basic Rate code to pay the standard rate tax on the salary you receive from the limited company.

There is no hard and fast rule that you should start out as a sole trader or limited company There is a possibility to shift from a sole trader to limited company status, but you should decide the best option based on the value and advantages each offers your business.