How to become a sole trader: the complete guide

If you want to go it alone starting a small business (and becoming a sole trader), you’re in good company.

A massive 75% of all British businesses have no other employees, according to the Department for Business Innovation and Skills. So, you could say that sole traders pretty much drive the UK economy!

So, where to begin? How does one get started and what are the most important things you will need to know about registering as a sole trader? Read on to find out.

What is a sole trader?

As a sole trader, you and the business are considered one entity – that means your business profits are your profits, your business losses are your losses, and any legal issues you may encounter are also connected to you.

You alone are responsible for the majority (if not all) of the business operations as well, including ensuring that you keep the necessary records, and manage the success of the business.

When are you defined as a sole trader?

You are considered a sole trader from the moment you begin trading as an individual. However, you’ll need to make sure you register to make it official (and also to receive benefits such as being able to contribute to your Class 2 National Insurance payments.)

If you earn any money through any other means than a salary or commission from an employer, you’re considered self-employed, and in most cases this will make you a sole trader (unless you’ve deliberately set up as a partnership or limited company).

Regardless of whether you’ve earned enough to require you to pay tax, if you meet this definition you will be required to register with HMRC for self-assessment.

In some cases it can be hard to determine at what point to register as a sole trader. When, for example, does selling on eBay turn into a business? HMRC rules stipulate that you must register as a sole trader if you meet any of the following criteria: selling goods that were bought with the intention of reselling, selling items that you made yourself for a profit, selling or buying on behalf of others for financial gain, or receiving payment for a service.

Do you pay yourself a salary as a sole trader?

As a sole trader or a partnership, the profits are yours so you can take ‘drawings’ any time you like, and do whatever you want with them. You could also set up a system using payroll software to give yourself an annual salary.

Benefits of being a sole trader

Setting up as a sole trader remains the most popular way to get started as a small business owner, especially in these trying times when the cost of living and inflation is causing people to look outside of their typical salaried professions, even if it starts out as just a side-hustle.

It can be a valid and important company structure to choose, either initially for your business in its early days, or as a permanent decision. And it is not without a ton of benefits:

• Ease of setup – On HMRC’s government website, it is relatively easy to get started as a sole trader. You only need to fill in details for yourself, and the system allows you to get started with your business almost straight away.
• You keep all the profits – Unless you decide to hire part or full-time staff to help you run your daily operations, you will be able to keep all of the profits you make from the success of the business.
• Flexibility – It is far easier to become a sole trader and scale up your structure when it’s necessary than having to dissolve a bigger company structure (an LLP or company for example).

Sole trader drawbacks

Whilst setting up as a sole trader comes with many undeniable advantages, there are also some drawbacks to consider:

• Responsibility
  A sole trader carries the responsibility of accepting unlimited liability for their business finance – meaning that if the business goes bust and files for bankruptcy, the business owner themselves is considered bankrupt. Such unlimited liability could mean a sole trader ends up selling high-value possessions like their car, or even their house, to save their business from going bust. This can lead to a lack of security for sole traders.
• Stress
  Sole traders can find it difficult to ‘shut-off’ from their work due to the heavy personal responsibility involved. Taking time off can be tricky and for those sole traders who operate alone, it can get a little lonely at times.
• Financial risk
  As a sole trader is the business, instead of the business existing as a separate legal entity (as would be the case if you formed a limited company), any business debts are the trader’s debts, making a sole trader completely financially liable for all of their business operations.

When to register as a sole trader

Registering as a sole trader in the UK is a relatively simple process that can be completed online fairly swiftly. It’s important, though, to do each of the steps below correctly, and not leave things until the last minute.

How to register as a sole trader

You need to set up as a sole trader if you earned more than £1,000 from self-employment between the tax year (which begins on 6 April every year, and ends on 5 April in the following year.)

Step 1: Choosing a Trading Name as a Sole Trader (Optional)

It is not compulsory to register a business name, but if you are going to trade under a name different to your own personal name, you’re going to make sure you obtain all the rights to be able to use it. You can find more information about naming your sole trader business here, as well as information on how to register a trademark in the UK.

Step 2: Create a “Government Gateway” account.

You can create your online account here using your full name, email and password – then you’ll be sent a user ID to the email address you provided.

Step 3: Log in to your Government Gateway account and select ‘Add a tax’

Using your user ID and password, you can now log in to your Government Gateway account and register. You’ll see an option to “add a tax” to your account.

Step 4: Select ‘Self Assessment’ (for self-employed, partnerships and trusts)

You’ll then need to select a Self-Assessment category from the options: individual or sole trader, and partnership or trust. (Registering a company is a different process and requires different steps, which you can find out about here.)

How much can you earn as a sole trader before paying tax?

As a self-employed sole trader, you’ll have to complete a self-assessment tax return to HMRC. This involves filling in a tax return form, either online or paper, in which you inform HMRC of your income and capital gains, or in which you may claim tax allowances or reliefs. To do this, you will need to register as a sole trader.

Once this is done, HMRC will set up tax records for you and will send you a Unique Taxpayer Reference (UTR). You can read more about how to register as self employed here.

HMRC will send you your self-assessment tax return in April. However, if yours doesn’t arrive by the end of April, contact your tax office.

Tax-free allowance

£12,570 is the personal allowance of tax-free income as of 2024. Anything above this will be subject to tax (20% on anything over £12,570 and under £45,000). It’s worth noting that £12,570 is the allowance across all income sources.

National Insurance obligations

If you’re a self-employed sole trader you are also liable to pay National Insurance (NI) contributions if you have profits above the Small Profits Threshold of £6025 for the year between 6 April 2017 and 5 April 2018. If this applies, you’ll pay Class 2 NI contributions at a flat rate of £2.85 per week. If your profits are over £8164 for the year, you’ll also pay Class 4 NI contributions at a rate of 9% of the profits you make between £8,164 and £45,000 (and a further 2% over that amount).

VAT threshold and registering for VAT

Finally, if you expect to have a turnover of more than £85,000 a year, VAT is applied to your earnings, which also involves contacting HMRC.

To register for VAT you’ll need to fill in one or more forms, depending on your business’ circumstances, and then submit them to HMRC. Most businesses only have to complete one form, with the exception of partnerships and groups of companies.

All this may seem quite daunting at first, but if managed properly it’s really not as overwhelming as it seems. The best thing you can do is stay organised, maintain your paperwork and flag up any tax or self-assessment deadlines in your diary well in advance so you have adequate time to prepare for them.

See our guide on how to register for VAT for more on this.

Tax payments and key dates for sole traders

You will have to make 2 payments every year (unless your Self Assessment tax bill is less than £1000), due by midnight on 31 January and 31 July.

Self-assessment (also known as ‘filing your tax return’ or simply your ‘sole trader taxes’) is when you report how much money you’ve earned that year and any other significant changes in your business or personal circumstances to HMRC, and they get back to you with a fee for how much National Insurance you’re obligated to pay.

Once you’re all set, there is one main thing you’ll need to remember to be a sole trader: keep records.

You’ll need to keep a record of your last five years’ income and expenditure at a minimum. It’s vital that you have these records ready for HMRC if by any chance they’re ever requested:

• Your business’ full accounts (i.e. bank statements)
• Details of your expenses, including receipts
• PAYE records (if applicable): Sole traders can employ people, so if you do, you’ll need a record of the wages through HMRC’s PAYE system.
• Sales invoices
• Details of all taxes you’ve paid
• Your self-assessment tax returns

You’ll need your records to fill in your tax return accurately as they roll around each year. As long as you can stay on top of that, you’re set!

Software and services to support sole traders

As a sole trader you can take two of the typical methods of trading: a bricks-and-mortar store, or an online-led business (you can also do both!)

With a brand new bricks-and-mortar store, one of your next moves would be to start learning about the basics of taking card payments with a POS system.

With a new online business, your next moves may be to look for an excellent website hosting provider, an online payment gateway system so you can accept purchases online, and choose a domain name to represent your business.

For both, you’ll definitely want to look into researching the best ways to use social media. We interviewed social media guru Ross Testa for his best top tips on how to market your business online.

The next thing people start looking into after registering is choosing a good business bank account, accounting software to keep track of their expenses, and how to manage the new tax implications.

As a sole trader you don’t need a business bank account, but setting one up can be very beneficial. For example, it may help you look more professional, allowing you to provide your company name on invoices. It also allows you to have a very clear line between your personal expenses and ones for the business (that you may be able to claim back on your taxes.)

Penalties if you fail to register

We’ve already explained that you need to register as a sole trader when your profits exceed £1000 over the course of a year or within any given tax period. But, we haven’t yet mentioned what happens if you don’t register in time.

If you miss the 5 October deadline within any year, you will most likely be subject to fines until the outstanding amount has been settled. Any further, more serious failures such as not submitting tax returns or purposely submitting them incorrectly could have more serious consequences such as an audit, larger fines or potential jail time.

Despite the term ‘self-assessment’ you don’t have to do it all yourself if you don’t want to – you have a few options. An accountant can take a look at your finances and complete your returns accurately, and may even have some tips to help you minimise the tax you have to pay. They can however be quite expensive for a sole trader who is just starting out.

So as an alternative, another great way to avoid any problems is to invest in some quality, HMRC-recognised accounting software. This way you’ll be Making Tax Digital (MTD) compliant, and digital accounting software will help you minimise any errors.