Sole Trader / Partnership v Limited Company

Sole Trader / Partnership v Limited Company

Thinking of setting up a new business?  Unsure whether to register as a limited company, or operate as a sole trader or partnership?

This comparison illustrates the main differences between a business run by a sole trader or partnership and a company managed by its owner director/shareholder.

As you will see, there are significant differences in the way remuneration is taken as well as the tax and NIC implications.

Sole Trader or Partnership Limited Company: you are director & shareholder
You are the business The business is a separate legal entity
You are the owner You are the shareholder
You are the manager/proprietor

You serve the company as its director (and perhaps company secretary too)

Employment status:

  • asfb-favicon2-transp You are self-employed.

  • asfb-favicon2-transp You cannot also be an employee.

Employment status:

  • asfb-favicon2-transp A director is an office holder.  This does not automatically make him an employee in terms of employment law.

  • asfb-favicon2-transp For tax and National Insurance purposes company officers are generally taxed as employees.

Tax on profits:

  • asfb-favicon2-transp You pay Class 2 & 4 National Insurance and Income Tax on taxable profits, or your share of profits.

    • asfb-favicon2-transp Your top rate of tax is 50%

Tax on profits:

  • asfb-favicon2-transp The company pays Corporation Tax on its taxable profits. Company tax rates are lower than higher rates of income tax.

  • asfb-favicon2-transp Employees and office holders are subject to PAYE and NICS on their pay and most benefits in kind. 

  • asfb-favicon2-transp Shareholders pay higher rate tax on dividends.

    • asfb-favicon2-transp When IR35 and the Managed Service Company provisions apply, the company must deduct PAYE and NICs on the income affected.

Losses:

  • asfb-favicon2-transp You can offset your trading losses against your other income.

Losses:

  • asfb-favicon2-transp The company can offset its trading losses against its other income, but not against your income as an individual.

Extracting profits:

  • asfb-favicon2-transp You may withdraw cash from the business without tax effect.

 

Extracting profits:

You are taxed on the following:

  • asfb-favicon2-transp Any income withdrawn from the company. If it's a distribution it is taxed as a dividend. If it is earnings it is under PAYE and subject to NICs.

  • asfb-favicon2-transp Most employment benefits received by you or your family and household are taxable (subject to tax-free exceptions).

  • asfb-favicon2-transp Shares or securities in the company which are given to you at less then market value.

 

Borrowing:

  • asfb-favicon2-transp You are free to borrow from the business bank account.  After all, it is your account.

Borrowing:

A director may borrow from his own company. Limits are set by Companies Act 2006, but there are tax costs:

  • asfb-favicon2-transp The company will pay a tax charge of 25% if you borrow from the company and do not repay the loan within nine months of the year end.

  • asfb-favicon2-transp If the loan is interest-free there will be a taxable benefit in kind for the director.

Pension:

  • asfb-favicon2-transp You can only have a Personal Pension.

Pension:

  • asfb-favicon2-transp Company schemes may be far more generous in terms of benefits and limits than Personal Pension.

  • asfb-favicon2-transp A SIP or SAS, or an unapproved scheme may be used to hold assets used in the company and may have flexibility on borrowing multiples.

  • asfb-favicon2-transp Stakeholder Scheme pensions must be available when you employ 5+ employees.

Insolvency:

  • asfb-favicon2-transp If the business fails you will be personally (or jointly with your partners) liable for its debts.

Insolvency:

  • asfb-favicon2-transp If the company fails, your liability is limited to the amount unpaid on your shares (if any) unless you have made a personal guarantee (which is often           required by banks).

  • asfb-favicon2-transp As a director you can be held personally accountable if you continue trading when your company is insolvent and this causes financial loss to creditors. This could result in your personal bankruptcy.

 

Accounts:

  • asfb-favicon2-transp You prepare annual accounts for your personal tax return (Self Assessment). They can be in a very basic format.

  • asfb-favicon2-transp Your accounts are not submitted to HMRC unless you are subject to an investigation.

  • asfb-favicon2-transp Your accounts must be prepared in accordance with accounting standards.

Accounts:

  • asfb-favicon2-transp You prepare annual accounts under the provisions of the Companies Act.  These can be abbreviated for filing with Companies House.

  • asfb-favicon2-transp HMRC requires full accounts for Corporation Tax which must be submitted using its own or specialist software.

  • asfb-favicon2-transp Accounts must be prepared in accordance with accounting standards.

Selling the business:

When the business or assets used in it are sold, you are personally taxed on any gain under the Capital Gains Tax (CGT) rules.

  • asfb-favicon2-transp A disposal with gains of up to £5 million may qualify for Entrepreneurs’ relief

Selling the business:

When the business or its assets are sold, there is a double tax charge on shareholders. The company pays corporation tax on any profit that it makes on disposal. The shareholders are taxed on the distribution of the proceeds.

  • asfb-favicon2-transp It may often be more efficient to sell the shares in a company, rather than its trade or business, or individual assets.

  • asfb-favicon2-transp Company shares can be gifted.

  • asfb-favicon2-transp Providing you own more than 5% of a trading company, a disposal with lifetime gains of up to £10 million may qualify for Entrepreneurs’ relief.

 

Death:

  • asfb-favicon2-transp When you die your business ceases. You can pass all or part of it down to the next generation.

  • asfb-favicon2-transp In a partnership you can pass on your share of the partnership.

  • asfb-favicon2-transp Business Property relief (PBR) will apply for inheritance tax (IHT) purposes if the business is a qualifying trade.

Death:

  • asfb-favicon2-transp When you die the company continues as it is a separate legal entity.

  • asfb-favicon2-transp The company’s shares will qualify for BPR for IHT  purposes, providing the company is engaged in trade.

  • asfb-favicon2-transp There is no IHT relief on outstanding directors’ loans.

  • asfb-favicon2-transp Assets that are held outside the business qualify for 50% BPR.

Paying yourself:

  • asfb-favicon2-transp You can withdraw any amount of profits, but it is not classed as remuneration as you are not an               employee.

  • asfb-favicon2-transp Paying a salary to a spouse or family members must be commercially justified to be allowable for tax purposes.

Paying yourself:

  • asfb-favicon2-transp There is no restriction on the size of your salary, but it is subject to PAYE and NICs.

  • asfb-favicon2-transp Paying a salary to a spouse or family members must be commercially justified to be allowable for tax purposes.

  • asfb-favicon2-transp If your contracts are under IR35 or the company is a managed service company PAYE and NICs will apply to income.

 

Expenses in general:

  • asfb-favicon2-transp You can obtain tax relief for expenses that are incurred wholly and exclusively for the purposes of your trade.

  • asfb-favicon2-transp If you can identify a proportion of an expense that relates to business you can claim the same proportion against tax.

  • asfb-favicon2-transp An adjustment must be made for tax to add back the proportion of any expense that relates to “private use”.

  • asfb-favicon2-transp Most commonly private use will be things like use of your telephone or power, own consumption of goods, and motor running expenses.

Expenses in general:

  • asfb-favicon2-transp The company obtains tax relief for its expenses if they are incurred wholly and exclusively for the purposes of the trade.

  • asfb-favicon2-transp If a director incurs private expenses paid through the company, they are treated as earnings.

  • asfb-favicon2-transp Alternatively, private expenses can be used to offset a loan made by the director to the company.

  • asfb-favicon2-transp Private payments may also be treated as distributions or dividends.

Cars and fuel:

  • asfb-favicon2-transp A sole trader or partner can claim capital allowances on a car, disallowing a proportion for private use.

  • asfb-favicon2-transp Low-emission cars can be tax efficient for family members on the payroll.

  • asfb-favicon2-transp There is no adjustment for fuel benefit for you as a sole trader.  You simply disallow a proportion of your fuel costs in relation to private use.

Cars and fuel:

  • asfb-favicon2-transp The company obtains full capital allowances on cars, irrespective of any private use by employees.

  • asfb-favicon2-transp Cars may be expensive as benefits in kind but this depends on list price and the CO2 emissions of the vehicle.

  • asfb-favicon2-transp It may be better to use your own car and be reimbursed by the company using HMRC’s Authorised Mileage Rate.

  • asfb-favicon2-transp Low-emission cars can be a tax break for family members on the payroll.

  • asfb-favicon2-transp It is not tax efficient to provide fuel for private use.

Mobile phones:

  • asfb-favicon2-transp Mobile phones will be subject to private use so a tax add-back is expected on your tax return.

Mobile phones:

  • asfb-favicon2-transp Mobile phones can be provided if the contract is in the company’s name, tax free.

  • asfb-favicon2-transp Only one per household.

 

Computers:

  • asfb-favicon2-transp You can obtain capital allowances on a computer. An add back of allowances will apply if there is substantial private use.

Computers:

  • asfb-favicon2-transp Providing you need to use one to perform your role your company can provide a computer without any tax consequences.

Tax-free benefits and incentives:

  • asfb-favicon2-transp These do not apply to the self-employed

 

Tax-free benefits and incentives:

  • asfb-favicon2-transp Many different benefits and employment incentives can be provided free of tax (the company will obtain tax relief on the cost of providing these too).

Working from home:

  • asfb-favicon2-transp You will be able to claim a deduction for mortgage interest, rates and light and heat, if you have an office at home.

 

Working from home:

  • asfb-favicon2-transp You can claim £3 per week without receipts for home expenses.

  • asfb-favicon2-transp Alternatively, the company can reimburse you for light and heat, but not mortgage interest or council tax.

 

Charging rent for use of home:

  • asfb-favicon2-transp A sole trader cannot charge himself rent.

 

Charging rent for use of home:

  • asfb-favicon2-transp As a director you can set up a licence between you and your company to rent an office in your home. This will enable you to recharge a proportion of mortgage interest and council tax.

  • asfb-favicon2-transp You will need to prepare rental accounts as an individual for your own tax purposes.

 

Let's get in touch

If you are still unsure which of these formats to choose, we are here to help you. We will work out what is best suited to your circumstances as well as provide the maximum personal income with least tax and NIC liability. 

Call our friendly team on on 01202 755600 or email hello@asfb.co.uk