What are the key features of running a business as a sole trader?
The key features of operating a business as a sole trader are:
Lack of legal formality
• The business will not have a legal personality. The business is the sole trader and there is no separation between the affairs of the business and the sole trader. This has the advantage of meaning that there are no formation requirements, so a business can be up and running very quickly and easily. The lack of legal formality also means that there is no need to adopt constitutional documents or hold board meetings and pass resolutions etc.
Personal liability, without limit
• A sole trader is personally liable, without limit, for the debts, losses and liabilities of the business. This can be a significant factor depending on what debts/losses/liabilities the business has or expects to take on. This means that the sole trader’s personal assets are at risk if the business fails to pay its creditors.
A sole trader trades alone
• The business is owned and managed by the sole trader and there is no separation between the management and the ownership of the business.
No on-going administration and filing requirements
• A business operated as a sole trader does not need to file accounts or any other documents with Companies House.
Sole traders are taxed as individuals
• Sole traders must register with HMRC as soon as possible after starting their business. A sole trader pays income tax (and not corporation tax) on the profits the business makes and has to pay national insurance. HMRC also requires a sole trader to fill in a self-assessment tax return every year. Depending on business turnover, the business may also need to register for VAT.
Care needs to be taken regarding the self-employment status of the sole trader and HMRC’s desire to make sure that the situation is genuinely one of self-employment rather than being a tax driven device. HMRC is highly suspicious of any artificial self-employment relationship, particularly where the self-employed person has no other 'clients'. A sole trader will often operate through a personal service company (or other separate legal entity) which he sets up to act as an intermediary (“intermediary”) between himself and his customers/clients. There are special tax/NIC anti-avoidance rules (“the IR35 regulations”) which apply in such cases if the intermediary is a tax driven device.
For guidance about the risk of a sole trader being treated by HMRC as an employee, and the risk of an intermediary being caught by the IR35 regulations, please see our Guidance on Employment, Self-Employment and IR35. Please also see the guidance on a sole trader’s tax position generally which can be found on HMRC’s website.