When starting a new business venture, one of the first questions you might have is what is do you want to operate as – a company director in a limited company, or as a sole trader? The choice will depend on several factors.
In this blog, we take a look at the main differences between being a company director and a sole trader, and explore the pros and cons of each. Let’s begin.
What is a company director?
As a company director, you are appointed to manage and direct a limited company’s affairs, and are legally responsible for running the company.
A limited company, also referred to as a company limited by shares, has its own separate legal entity from its owners (shareholders) and has limited liability. This means that the personal assets of the shareholders are protected from the company’s debts or losses. Even if there is only one shareholder, the company is still an entirely separate entity from the owner.
Limited companies must be registered on Companies House, along with the details of at least one director. This information is then shared on the public register by law.
The primary responsibilities of a company director will typically include making strategic decisions, managing operations, and ensuring compliance with the necessary legal regulations.
What is a sole trader?
As a sole trader, you will run your own business as a self-employed individual. You may work on your own or you may choose to employ people to work for you.
Unlike a company director, a sole trader does not have a separate legal entity, and is therefore personally responsible for the company’s financial liabilities and debts. A sole trader will receive all of the business’s profits, and is not subject to the same level of legal and regulatory requirements as a company director.
Setting up as a company director vs. as a sole trader
As mentioned, as a company director you will need to register your business with Companies House and appoint yourself as a company director.
During this process, you must also choose a unique business name that complies with the rules and restrictions set by Companies House.
You’ll need to complete the required forms, either online or through a company formation agency, such as ourselves, who will take care of the paperwork and submit it to Companies House on your behalf – a process that can take as little as a few hours.
Getting started as a sole trader is a completely different process from setting up as a limited company. You are not required to register with Companies House – instead, you’ll need to register yourself as self-employed with HMRC, which you can do using the Government’s online portal. To do this, you’ll just need a few details including:
- Your National Insurance number
- Your name and home address
- Your personal contact details
- The name and address of your business (which can be your own name and home address, unless your business has a separate trading address or unique name)
- The date you started trading
- Details of what your business does
Once you have completed your online registration, you’ll receive a letter from HMRC, usually within a few days, containing details of your responsibilities and obligations as a sole trader.
What administrative responsibilities does a company director have vs. a sole trader?
As a company director, your role will involve a range of ongoing administrative duties. You’ll need to ensure Companies House is kept informed of any changes in your or your company’s circumstances and that all information is sent on time.
This will include:
- The confirmation statement
- The annual accounts
- Allotment of company shares
- Registration of charges
- Any changes in your company’s people with significant control (PSC) details
- Any changes in your company officers or their details
As a sole trader, your only legal administrative responsibility will be your annual Self Assessment tax return. You must register for Self Assessment no later than the 5 October following the end of the tax year in which your profits first arose.
If you earn over the VAT threshold (£85,000 or more), you’ll also need to register for VAT.
What are the tax obligations for a company director vs. a sole trader?
As director of a limited company, you will need to pay Corporation Tax on all profits you make as a business.
The amount of Corporation Tax you’ll pay will be based on your company’s net income, which is calculated by subtracting your expenses from the business’s revenue. This is something you will need to work out, pay and report, following these steps:
- Register for Corporation Tax as soon as you start doing business
- Keep accounting records and prepare for a Company Tax Return to work out how much tax you owe
- Pay Corporation Tax or report if you have nothing to pay by the deadline (usually 9 months and 1 day after the end of your accounting period)
- File your Company Tax Return by the deadline (usually 12 months after the end of your accounting period)
Many company directors choose to call on the support of an accountant to assist them in ensuring these obligations are met, as it can otherwise be quite a daunting and time-consuming process.
As a sole trader, you are required to pay Income Tax on all the profits you make above the Personal Allowance of £12,570 (2023/24), along with making National Insurance contributions.
As mentioned earlier, you’ll need to register for Self Assessment and file an annual tax return, which can be done online through GOV.UK.
You’ll also need to keep records of your income and any expenses throughout the year, such as bank statements and receipts, so that you are able to accurately fill in your return. You are entitled to claim expenses like office supplies, fuel, and marketing costs, including website hosting and maintenance. You can see more examples of what you can claim here.
HMRC will then calculate what you owe based on what you have reported in your return.
What are the differences in income for a company director and a sole trader?
A company director will usually take a monthly salary, as well as dividends; a portion of the company’s profits distributed to its shareholders.
Dividends are subject to income tax, but there is a tax-free allowance of £1000 (2023/24), meaning you can receive up to £1,000 without paying tax.
Of course, the salary and dividends a company director receives will all depend on the profitability of the business and the revenue it generates; however, generally speaking, a company director’s salary is likely to be much more lucrative than that of a sole trader.
The income of a sole trader will depend on their profits, which, as with any business structure, may vary widely depending on the industry, the level of competition, and the demand for your product or services.
While it is possible for a sole trader to earn just as much income as a company director, it’s often the case that earnings will be comparatively lower, since sole traders do not benefit from dividends and arguably are exposed to greater fluctuations in business.
Weighing up the pros and cons
So now that you have hopefully gained a greater insight into the differences between a company director and a sole trader, let’s take a look at the pros and cons of each.
The pros of being a company director
- Limited liability protection: Your company is a separate legal entity, which means that your personal assets are protected in case of business debts or legal action against the company.
- Access to funding: Limited companies usually find it easier to raise capital through investments, a wider selection of loans, government grants, or issuing shares.
- Brand recognition: Limited companies are often perceived as bigger, and therefore have greater credibility, and are given more trust in the market than sole traders.
- Opportunities for growth: A company can expand more easily than a sole trader by hiring employees, forming partnerships, securing funding, or acquiring other businesses.
- Tax benefits: Company directors are eligible for more tax reliefs, deductions, and lower tax rates than sole traders.
The cons of being a company director
- Less control: Company directors often have to share control and decision-making power with other stakeholders, such as shareholders or a board of directors.
- Increased accountability: Company directors have more legal and financial responsibilities, such as complying with regulations, preparing financial reports, and managing employees – which can be time-consuming and costly.
- Higher costs: Companies may have higher costs associated with incorporation, ongoing legal and accounting fees, and other administrative expenses.
- Less privacy: Companies must disclose certain information, such as financial reports and ownership structure, to the public.
The pros of being a sole trader
- Greater control: Sole traders have complete control over their business, from decision-making to operations.
- Simpler administration: There are fewer legal and regulatory requirements, which can make it easier to start and run a business.
- More privacy: Sole traders have greater privacy as they are not required to disclose information about their business or finances to the public.
- Lower costs: Sole traders generally have a lower start-up and operational costs compared to companies.
- Greater flexibility: They can make changes to their business quickly and easily, without needing to consult with other stakeholders.
The cons of being a sole trader
- Unlimited personal liability: Sole traders are personally responsible for the debts and legal liabilities of their business, which could mean that personal assets may be at risk in the event of financial or legal trouble.
- Limited access to funding: Sole traders may find it harder to access financing and investment opportunities compared to limited companies.
- More difficult to build recognition: Establishing brand recognition and credibility may be more challenging as a sole trader.
- Limited growth opportunities: Sole traders may find it difficult to scale their business beyond their own capacity, due to restricted resources and limited funding.
- Higher tax rates: Sole traders are often subject to higher tax rates and fewer tax deductions compared to limited companies.
So there you have it, the differences between a company director and a sole trader. We hope you’ve found this post useful and that it’s helped to clarify which role and company structure is best suited to you.
If you have any questions, please leave us a comment below and we’ll come back to you.