Sole trader vs limited company: which company structure is right for you?

If you’re debating whether to start a business as a sole trader or a limited company, it’s important to understand both business structures properly.

This determines who will be making the major decisions, how much tax you’ll pay, how you’ll be allowed to raise funds, and who has financial liability for the business.

Knowing the difference is important because it affects your personal risk, ability to grow the business, how professional your business appears, and the financial and legal responsibilities you take on.

And with the Making Tax Digital (MTD) deadline approaching, it’s even more crucial to choose the right structure, as it will determine how you keep digital records, report your taxes, and manage compliance efficiently from the start.

If you’re not sure where to start, this guide will walk you through what each structure means, its advantages and disadvantages, and how to choose the right one for you.

What is a sole trader?

A sole trader is someone self-employed who runs a business on their own. This means that while you get to keep all the profits, you are personally responsible for any debts or losses.

It’s simple and cheap to set up, with minimal paperwork, and you have full control over decisions. However, there’s no legal separation between personal and business finances, so personal assets can be at risk.

Who is suited to being a sole trader?

Being a sole trader isn’t for everyone, but it’s a great choice for certain types of people and businesses. For example:

• Freelancers/consultants: people offering services on their own, like copywriters, graphic designers, developers, or marketing consultants. They often have low overheads, work with multiple clients and don’t need a complex structure.
• Small local businesses: those running a small-scale operation like a hairdresser, gardener, handyman, or cleaner. You can focus on offering your skills without complicated admin or filing.
• Low-risk startups: businesses with minimal financial risk or upfront costs. You can always switch to a limited company later as things grow.

What is a limited company?

A limited company is a business structure that is legally separate from the person or people who own it, meaning the company is responsible for its own debts and losses (rather than the individuals themselves).

Owners of a limited company have limited liability, so they usually only risk the money they’ve invested, and the company pays its own tax on profits, while directors can pay themselves through salary and dividends.

Who is suited to a limited company?

A limited company is best suited for businesses that are looking to grow, want protection for their personal assets, or are looking for a more professional image. This includes:

• High-risk businesses: if your business involves significant financial risk (e.g. loans, large contracts, etc.), then a limited company protects your personal finances with limited liability. 

Example: a construction contractor that hires subcontractors and signs big contracts is safer operating through a limited company than as a sole trader.

• High-growth businesses: if you’re planning to hire staff, attract investors, or expand nationally or internationally, a limited company structure offers the flexibility to grow. 

Example: a small tech startup developing an app would benefit from this structure so it can bring on investors, give out shares, and scale quickly.

• Businesses with multiple owners/directors: if you’re going into business with partners, a limited company lets you split ownership through shares, define roles, and outline responsibilities clearly.

Example: two friends starting a digital agency can each own 50% of the company, with their roles and equity clearly documented.

What’s the difference between a sole trader and a limited company?

The main differences between a sole trader and a limited company boil down to legal liabilities, registration, and the tax they pay. Here’s a quick breakdown:

Sole trader vs limited company: which one is best for your business?

The best choice for your business ultimately depends on how much risk you’re willing to take and the tax you’re responsible for. 

You should also think about how professional you want the business to appear, whether you plan to grow or take on investors, and how much control and flexibility you want day-to-day.

Here are some key considerations to keep in mind:

Sole Trader vs limited company: how to choose the right business structure

Choosing the right business structure is all about balancing risk, control, tax, and future plans. To figure out which one is best for you, you’ll need to:

Assess your risk level

You’ll need to determine whether your business is high risk or low risk. Becoming a sole trader would be the best option if you’re freelancing or running a small-scale side hustle.

On the other hand, a limited company or LLP will give you personal asset protection if you’re dealing with large contracts or hiring staff.

Consider whether you’re working solo or with others

Are you working alone or with others? If you’re doing this on your own, then you can choose either to become a sole trader or set up a limited company. The right choice ultimately depends on how much tax you expect to pay and how much personal risk you’re comfortable with.

Think about tax implications

For this, you should consider how much you’re earning annually. For example, if you’re earning under £30,000 a year, the sole trader option would be more straightforward and cheaper tax-wise.

However, if you’re earning above this amount, then a limited company can be more tax-efficient, particularly because of corporation tax and dividend options.

Look at your personal preferences

Do you want something quick and easy to set up and run? Becoming a sole trader would involve minimal paperwork and a relatively easy Self-Assessment tax return. Even if you’re not confident about doing taxes, you can always hire an accountant or find accounting software to help you.

However, if you’re comfortable handling a bit more admin in exchange for greater protection and a more professional image, a limited company might be a better fit. While it comes with stricter rules and reporting requirements, it also offers benefits like limited liability and potential tax advantages.

Consider investment and scaling

Want to bring in investors or give out shares? You’ll need a limited company. It’s ideal for startups or businesses planning to scale with external funding.

On the other hand, if you’re happy to stay small, lean, and in full control of your operations, being a sole trader might be a better choice. With more flexibility and fewer formalities, it’s well-suited to independent businesses that want simplicity over expansion.

Review your business plans

If you’re just starting or testing a business idea, becoming a sole trader is a good way to keep things simple and low-cost, and you can always switch to a limited company if things take off later.

But if your goals are more long-term, focused on growth, or you’re planning to eventually sell the business or bring in partners, it’s often better to register as a limited company from the start.

How does Making Tax Digital impact sole traders and limited companies?

Making Tax Digital (MTD) for Income Tax Self-Assessment (MTD ITSA) will apply to sole traders once their qualifying income is above certain thresholds. From 6 April 2026, it starts at £50,000, then drops to £30,000 from April 2027.

If you meet the threshold, you are required to keep digital records and submit quarterly income and expense updates to HMRC using approved accounting software. The single Self-Assessment return is replaced by regular reporting and a final declaration at the end of the year.

As for limited companies, MTD is already mandatory for value-added tax (VAT) if a business is VAT-registered. MTD for corporation tax was planned but has been scrapped for now, so limited companies don’t currently need quarterly reporting for this in the same way sole traders do for income tax.

That being said, limited companies will still need to keep digital records and file annual accounts and corporation tax returns, typically through compatible software or an accountant.

Can you change from sole trader to limited company?

You can change from a sole trader to a limited company if your business is growing and you want to protect your personal assets, manage higher profits more efficiently, or bring in investors and business partners.

If you are looking to turn your business into a limited company, you will need to:

• Choose a company name: this must be unique and not too similar to existing companies. You should also check the rules on trademarks and sensitive words.
• Register your company: you will need to register with Companies House and provide details like director information, shareholders and share structure, and company address.
• Set up a business bank account: a separate business account is required for limited companies. This also helps keep personal and company finances completely separate.
• Register for taxes: you will need to register the company for corporation tax with HMRC. You will also need to register for VAT if it applies, and set up Pay As You Earn (PAYE) if you plan to pay yourself or your employees a salary.
• Transfer assets and contracts: move business assets (like equipment and stock) into the company’s name. You should also notify clients and suppliers of the change and update contracts if needed (since the company replaces you as the legal entity).
• Close your sole trader business: you must inform HMRC that you are stopping trading as a sole trader, as well as submit a final Self-Assessment tax return.

Next steps

Whether you choose to set up as a sole trader or a limited company, both business structures come with their own benefits and drawbacks.

So, what should you do once you’ve chosen your business structure?

The first step is to register your business with HMRC. If you choose to operate as a limited company, you’ll also need to register with Companies House. Once you’ve completed this, you’ll be officially ready to run your business as you envision it.

Plus, with the right business plan, mindset and drive, any good entrepreneur will be able to navigate the obstacles that come with either of these structures and overcome them to start and run a successful business.

To make sure you stay compliant and fully prepared, check out our guide on Making Tax Digital and learn how it will affect your business.