What is a sole trader?
For many people, the thought of starting their own business seems impossible: Something to fantasize about but never put into action. This hesitation in taking the next step is usually caused by the belief that setting up a business is complex and risky.
While it is true that starting your own sole trader business presents its unique challenges, with the proper knowledge and plenty of motivation, anyone can achieve success after switching from employee to self-employed.
This guide discusses one of the most popular business models for self-employment: Sole traders. So, by the end of the article, you will know the key elements and responsibilities of a sole trader, how and when to register as a sole trader, and ultimately, whether the sole trader business structure is right for you.
What Is the Definition of a Sole Trader?
A sole trader is a self-employed individual running their own business. To gain sole trader status, you need to register your business on HM Revenue and Customs (HMRC).
Who Can Work as a Sole Trader?
Anyone who works for themselves can be a sole trader.
However, this structure tends to be best suited to single business owners who offer a tailored, individual service, such as hairdressers, plumbers, nail artists, electricians, and graphic designers, among many, many others.
Should You Become a Sole Trader?
Registering as a sole trader is only one of your options if you’re looking to set up a small business. Other company models may suit you better, such as partnerships and limited companies.
The sole trader business structure tends to be the best option for anyone who plans to work alone and doesn’t currently have intentions to scale their business, take on more than a couple of staff members, or partner with somebody else to share ownership of the company.
As a sole trader, you have unlimited liability over your business’ operation. Having unlimited liability essentially means that you’re 100% responsible for your business, and yourself and your business are seen as one entity.
A popular alternative to becoming a sole trader is registering on Companies House as a limited company (LC). The most significant difference between a sole trader and an LC is that the latter divides its ownership between shareholders or directors. On top of this, a limited company is a separate legal entity, which has some advantages from a financial and tax perspective.
If you’re unsure about whether you’re best suited to a sole trader or limited company business model, check out this blog post.
What Is a Sole Trader Business?
A sole trader business is a type of business owned and run by a single person. With this type of business model, there’s no legal distinction between the business entity and the person running the company.
Sole trader businesses tend to be reasonably small in size, given that one person operates them. These businesses can only be financed by the sole trader’s savings or loans from banks, family and friends.
Key Elements of a Sole Trader
Being a self-employed sole trader can be summarised by the following 10 key elements:
- You run an easy-to-form business;
- You are an individual owner;
- You are in total control of your business;
- You are responsible for your liabilities;
- Your company is easy to dissolve;
- You are not legally separate from your business (more on this below);
- You have flexibility in operation;
- You need to pay tax and national insurance;
- You do not need to display your records on Companies House;
- You work closely and communicate directly with customers.
What Does Not Legally Separate Mean?
In the eyes of the law, sole traders are not legally separate from their business. This means that as a sole trader, you have unlimited personal liability for your business, including any decisions, contracts, debts, and claims made against your business.
You and your business are seen as the same legal entity. If your company makes losses or gets into debt, your assets (such as your home or car) may need to be sold to pay back what you owe. It is highly important to be aware of this when deciding whether being self-employed is the right option for you.
What Are a Sole Trader's Responsibilities?
As a sole trader or self-employed person, your biggest responsibilities are to make national insurance contributions and pay income tax on your profits.
You will need to register on HMRC and pay tax accurately and on time. You may also need to register for VAT if your turnover exceeds £85,000 per year.
In preparation for your taxes, you will be responsible for managing your monthly accounts and logging your income and expenses. Many sole traders outsource their accounting responsibilities to an expert who can ensure that their accounts are in order in the runup to the tax year.
As mentioned above, self-employed professionals are also personally liable for any losses their business makes.
How Do You Start Working as a Sole Trader?
To start working as a sole trader, you will be required to register on HMRC as the sole owner of your business. You won’t have to register your business on Companies House since this is a requirement for limited companies, not sole traders.
HMRC will send you a unique tax reference number (UTR number) which you should use when completing your self-assessment tax return. Do not wait to receive this number before you start working. It can take up to 10 days for your UTR number to be delivered, and you only need it for submitting and paying your income tax. So, you can get on to work as soon as possible!
Submitting Tax Returns Is Pivotal For Sole Traders
What is more, there is no set way to run your business as a sole trader. There are thousands of sole traders in the UK, and business operations vary massively, depending on the service offered. However, one thing that all sole traders must do as part of the working year is submitting their self-assessment tax returns.
If you want to simplify the process of making your self-assessment taxes, strive to keep track of your monthly bills, expenses and invoices. Therefore, when the tax year ends, you can log your income and expenses straight onto HMRC, rather than having to spend hours going through your entire year’s finances.
You will also be required to register for VAT if you earn more than £85,000 from self-employment per year. Granted, it is pretty unlikely that you will have to worry about this in your early years of running your business. Many sole traders will never need to pay VAT on their profits.
Don’t be daunted if the need to file a yearly tax return is putting you off becoming a sole trader. An expert accounting company such as Mazuma can help you keep track of your records and submit your self-assessment taxes accurately and on time. Our sole trader tax return service is tailored to your requirements. And the best thing about it? The service is super affordable for all sole traders—no exceptions!
When Should You Register as a Sole Trader?
Becoming a registered sole trader is not an immediate requirement for self-employed individuals. However, anyone working for themselves should legally become the sole owner of their business by 5th October in their second year of trading.
Even if your self-employment profits fall below the current threshold for paying taxes (£12,571), you will still have to register your business. Sole trader registration requires that you submit your annual taxes, no matter what you earn. The only exception is for sole traders who make less than £1,000 per year. These individuals do not need to be registered, and they are also not required to submit their annual self-assessment taxes.
Registering as a sole trader can be intimidating. If you need assistance, Mazuma’s accounting team is always happy to help. We can manage your monthly bookkeeping and offer free advice along the way. Additionally, we can submit your tax and VAT returns for you to avoid last-minute panicking or late-night spreadsheet organizing.
What Are the Advantages and Disadvantages of Running a Sole Trader Business?
The advantages of running a sole trader business are as follows:
- Simple to set up;
- Owner retails 100% of profits;
- Freedom to manage your business as you see fit;
- You have the choice to employ your staff;
- Flexible working schedule.
The disadvantages of being self-employed as a sole trader are:
- Liable for your business’ debt;
- May have to pay for self-employed insurance;
- Longer working hours;
- Personal assets are at risk;
- No holiday pay.
