Self-Employed or Limited Company: Key Tax & Legal Differences

If you are planning to start a business in the United Kingdom, you will undoubtedly face a choice of business structure. In most cases, you will need to choose between doing business as self-employed or a limited company. 

Depending on the peculiarities of your business, one of them can be more advantageous than the other. Read on to learn about the pros and cons of these two common legal structures and decide which is best for you.

What is Better: Being Self-employed or Operating as a Limited Company?

When deciding whether to register as a limited company or self-employed in the UK, there are a few factors to consider. You will need to consider the following criteria to make the right choice about which type of business structure is better for you.

Ownership

It is important to decide whether you will be a single business owner or a co-owner to choose the right legal structure. A self-employed status implies sole business ownership, while a limited company can be ruled by one or more individuals.

Admin work

These business structures are also subject to different reporting requirements, which determine the amount of time you will need to spend on administrative chores. In general, sole traders spend less time on paperwork than limited companies.

Liability

Suppose your business faces financial difficulties. Whether you want to run your business as a limited company or as a self-employed individual will affect if your personal assets are protected against any legal claims.

Loan access

A limited company is often more likely to get a bank loan compared to a self-employed individual. It doesn't mean that a sole trader can’t get a loan they just have fewer loan options. It can also be more difficult for sole traders to attract investors.

Credibility

For some industries, the legal structure of a business may play an important role in terms of credibility, where clients may perceive one business structure as more credible than another  For example, some corporate clients are more likely to hire a legal professional that provides services as a limited company rather than a self-employed contractor.

Taxes

Limited companies and the self-employed are taxed differently. The amount of money you make affects your business's tax rate and becomes the primary decision point in choosing a legal structure.

Choosing a Business Structure: The Key Differences Between Self-Employed and Limited Company in the UK

One of the more common questions in the UK from people looking to start a new business is, "Should I go self-employed or form a limited company?". Let’s look at the pros and cons of both legal structures.

First, it is in your best interest as a business owner to keep the reporting process as simple as possible. From this point of view, setting up as a sole trader is more advantageous. 

However, not everyone chooses to be self-employed. The reason is that self-employed contractors face certain restrictions. For example, they can’t claim some expenses that a limited company can. 

Also, as a self-employed individual, you are the one responsible for the debts associated with your business activity, unlike a limited company where the assets of a business owner are separated from those of the business and are protected.

You have to be aware of some important things to decide what is better, self-employed or a limited company as your business option. You also need to know about the legal requirements for starting a small business at home and how to find customers or clients for your new venture.

Contact the Hoxton Mix to get help registering your business.

The main differences between an LTD and a self-employed 

Limited Company

• Owned by one or more people.
• 19% corporation tax + dividend tax if any is received + income tax on employees if any.
• The business owner has the advantage of limited liability.
• Has more strict reporting requirements and involves more paperwork. Reports to HMRC and Companies House.

Self-Employed

• Owned by a single person.
• 20% to 45% income tax + national insurance contribution if your income exceeds £6,515 per year.
• The business owner is liable for the business’s debts.
• Easier in terms of reporting. Reports to HMRC.

Self-employed vs. Limited Company Tax Rules

Tax rules are different for self-employed individuals and limited companies. While the primary type of tax paid by a limited company is 19% corporation tax, the self-employed pay income tax, and the tax rate depends on their income and varies from 20 to 45%. 

Since the tax rate for sole traders grows proportionally with their profit, there is a certain point at which it is more beneficial for sole traders in the UK to switch to a limited company structure. Hence, the difference in tax rates is the most common factor that makes self-employed individuals switch to a limited company structure. 

Is It Better to Be Self-employed or Limited Company? Which One is Right for You?

A self-employed status is an attractive option for many freelancers looking to take control of their careers. It gives them the freedom to work from home or anywhere with an internet connection and the flexibility to set their own hours. It entails less administrative work and a simpler reporting process.

However, a self-employed individual is not entitled to some employment rights, such as maternity/paternity leave, a minimum wage, or paid holidays. Still, they can claim some tax benefits and may be able to register for certain benefits. The downside of self-employment status is that it can be more challenging to get a loan, as banks will often require a personal guarantee when lending money.

There is also such a factor as credibility. A limited company will often be perceived as more credible than a self-employed contractor.

However, the deciding factor whether going for self-employment or limited company is taxes. Once you reach a certain profit level, it may become more advantageous for you to operate as a limited company. 

Here are a few common reasons why people choose to switch from being self-employed to becoming a director of their own limited company:

1. Their income grows to the point where it’s more beneficial for them to pay taxes as a limited company rather than as a sole trader.
2. They plan to sell their business, as it is easier to sell a business as a limited company.
3. They want to raise capital by taking out a loan or attracting investors.

Generally, changing a business structure from self-employed to a limited company is an easy process. To set up a limited company online, a business owner must complete a few steps:

1. In order to switch from self-employment to a limited company, notify HMRC about a change in legal structure. 

Note that you will still need to complete your self-assessment tax return as a sole trader by January of the following year.

1. Transfer your business assets to your new company and change your company address if needed.
2. Set up a bank account for your new business.
3. Inform your employees, contractors, banks, lenders, clients, etc., about the change of business structure and your new business bank details.
4. Register your company for taxes: corporation tax, PAYE, and VAT, if applicable.

One of the most common difficulties that the owner faces when changing a legal structure is failing to complete any of the steps described above. After the transition is complete, it is crucial to be aware of and fulfil the new legal responsibilities and reporting requirements.

In a nutshell, small businesses tend to choose the status of self-employed, as it is the easiest and the cheapest way to register a business. It involves less administrative hassle and an easier process of withdrawing money. Conversely, larger businesses decide to register as a limited company to enjoy limited liability and, at a certain profit level, lower taxes. 

Consider The Hoxton Mix Your Trusted Partner

The Hoxton Mix provides comprehensive business registration services in the UK. We help business owners set up a virtual business address and go through business registration and declaration of income processes with minimal effort on their part.

With years of business registration experience, the Hoxton Mix possesses the expertise to help your business establish compliant registration and reporting processes.

Are you planning to register a new business? Contact us, and we will help you quickly go through the registration process. Visit our site to get more information about our services.

FAQ

How do I know whether I should be self-employed or a limited company?

When choosing a business structure, you should consider the following factors: your income as a business entity and tax rate, the amount of admin work you are ready to perform, the credibility your business requires for good performance, etc. Contact the Hoxton Mix specialists to get professional advice regarding your business registration.

Is it better to be self-employed or a limited company?

Whether it’s better for you to be self-employed or trade as a limited company depends on many factors. Most importantly, it depends on your company’s income. Trading as a self-employed individual provides a number of advantages, e.g., easier to withdraw funds and less administrative work to do. However, at a certain level of income, you need to pay more taxes as a sole trader than if you were trading as a limited company.

Who pays more taxes: a self-employed sole trader or a limited company?

The limited company pays 19% corporation tax, dividend, and income tax for every employee, if applicable. A sole trader pays an income tax that varies depending on the profit made throughout a tax year. Thus, it depends on the profit level of a company whether it is better to pay taxes as a self-employed individual or a limited company.