When should a sole trader become a limited company?

How is a sole trader taxed compared with a company?

A sole trader pays income tax and Class 4 National Insurance on the whole profit, whether or not they spend it. A company pays corporation tax on its profit, and the director then pays income tax, National Insurance or dividend tax on whatever they take out. Two layers instead of one, but each layer can be lower, and anything left in the company is only taxed once. The comparison below uses the standard director strategy: a salary of £12,570, which uses the personal allowance and sits at the employee National Insurance threshold, with every remaining pound paid out as dividends.

Which pays less tax at £30,000, £50,000 and £80,000?

The working for £50,000. Sole trader: taxable income £50,000 − £12,570 = £37,430, all in the basic band, so income tax £7,486.00; Class 4 at 6% on £37,430 is £2,245.80; total £9,731.80. Company: salary £12,570 with employer NI of £1,135.50 leaves £36,294.50 of taxable profit; corporation tax at 19% is £6,895.96; the £29,398.54 left is paid as dividends and, after the £500 allowance, taxed at 10.75%, which is £3,106.59; total £11,138.05.

At £80,000 the sole trader’s income tax is £19,432.00 (part at 40%) and Class 4 is £2,856.60, total £22,288.60. The company’s profit after salary is £66,294.50, above £50,000, so marginal relief applies and corporation tax is £13,818.04; dividends of £52,476.46 straddle the basic and higher bands and cost £9,281.58; total £24,235.12.

Assumptions: rest-of-UK income tax rates, no other income, no pension contributions, no student loan, no Employment Allowance (a sole director paying only themselves cannot claim it), and every pound after tax is drawn as dividends. Pension contributions paid by the company change the answer materially and are ignored here. Run your own numbers through the self assessment calculator and the dividend vs salary calculator.

So when does a company save tax?

When you do not need all the profit. Money kept in the company is taxed at corporation tax rates only: 19% up to £50,000, rising through marginal relief to 25% at £250,000. A sole trader earning £80,000 pays 42% on the top slice (higher rate tax plus 2% Class 4) whether they spend it or not. If the £80,000 company leaves £30,000 in the business, that slice costs £5,700.00 of corporation tax now and dividend tax only when it is eventually drawn, perhaps in a low-income year or as a pension contribution with no dividend tax at all. The bigger the gap between what you earn and what you spend, the stronger the case for a company. If you spend everything you earn, the sole trader route is simpler and, on 2026/27 rates, cheaper.

Does the answer change with other income or in Scotland?

Yes, at the edges. If you have a salary from employment as well, your personal allowance is already used, so the company’s £12,570 director salary would be taxed and the sole trader comparison shifts. Above £100,000 of income the personal allowance tapers away at 50% in the pound for both structures. Scottish taxpayers pay Scottish rates on sole trader profit and on salary, but dividend rates are UK-wide, which can make dividends relatively more attractive north of the border. The calculators linked above handle both cases; this guide uses rest-of-UK rates throughout.

What are the non-tax reasons to incorporate?

• Limited liability: if the business fails, creditors claim against the company, not your house, unless you gave personal guarantees.
• Customers who will not engage sole traders, which is common in IT contracting, construction and public sector supply chains.
• Bringing in a business partner or outside investor through shares.
• Selling the business or passing it on, since a company is a separable asset.
• Perception: some clients see “Ltd” as more established.

What does a company cost in admin?

Annual accounts filed at Companies House and with HMRC, a corporation tax return, a confirmation statement each year, payroll submissions for your salary every month, board minutes and dividend vouchers for each dividend, and a separate business bank account. Most directors pay an accountant for this, and that fee alone can wipe out a modest tax saving. You also lose some privacy: your name, service address and the company’s accounts are public. Your personal VAT position does not change; the company is a new VAT person and its own turnover counts towards the £90,000 threshold from the day it starts trading.

How do I register a limited company?

Choose a name that is not already taken or too similar to an existing company, decide on at least one director and one shareholder (you can be both), and a registered office address in the UK. Register online at Companies House; most applications are approved the same day. Then register the company for corporation tax within three months of starting to trade, set up PAYE before you pay yourself a salary, and open a business bank account in the company’s name. Invoices from the company must show the full registered name; our invoice generator has a field for the company number and registered office, and the sole trader invoicing guide covers what changes when you switch.