Changing from Sole Trader to Limited Company: Your Step-by-Step Blueprint

Are you running a sole trader business that’s making £50,000 yearly profits? At the time your earnings hit this threshold, switching from sole trader to limited company status becomes a smart financial choice.

Your growing business might make you think about changing to a limited company structure to save on taxes. In fact, the switch could benefit you even with profits above £25,000. This is for two reasons – moving from self-employed to limited company status saves you money on taxes and it protects your personal assets through limited liability.

Here’s the best part – you can easily convert your sole trader business to a limited company. Companies House approves most applications within 24 hours. This is something we at WCL can help you with.

This article sets out the main differences between the business structures and some practical steps you need to take after incorporation.

Understand the Key Differences Before You Switch

Before making the switch to limited company, it’s important to understand some of the key points for each structure.

Ownership of assets and limitation of liability are two key factors that business owners use to determine whether they remain a sole trader or convert to a company.

If you are a sole trader, you personally own all assets in that business, the main one being cash.  A company as a separate legal entity will own any business assets and so extracting the “cash” is a key consideration.

In terms of personal liability, if you are a sole trader it means that any liability arising in the business lies with you personally. So your personal assets (house, car etc) are at risk if something goes wrong. Whereas as the company is a separate legal entity, the company is liable for its debts etc. If you are a shareholder in the company, you are only personally liable if you haven’t paid fully for your shares i.e. you should have paid £2,000 for your shares, but you only paid £1,000. You would be liable to pay for the balance. If you are fully paid up – no further liability.  The position is slightly different for directors.

Directors are in charge of the running of the company on a day to day basis. Normally they are not personally liable for the company’s liabilities. However, this can be opened up particularly where a company is trading on an insolvent basis. However don’t let this put you off! A well run company which obtains professional advice will negate this small risk.

Tax is also a very important consideration. Sole traders pay income tax between 20% to 45% on all business profits.

Companies pay corporation tax, starting at 19% on profits which can lead to big tax savings as your business expands. In terms of your personal income tax position, taking dividends still tends to be a more tax efficient way of earning money.

The switch from self employed to limited company can mean dealing with more paperwork:

• Registering with Companies House (typically processed within 24 hours)
• Filing annual company accounts and confirmation statements
• Submitting corporation tax returns

If you are a sole trader or company, both entities still potentially have to file VAT returns and still have to set up PAYE schemes where they have employees.

A particular upside to running a company is attracting investment into your business. A company can benefit from both equity investment and debt financing. A sole trader can only benefit from debt financing.

A clear grasp of these basic differences will give you realistic expectations about the benefits and responsibilities of your new business structure.

Step-by-Step Process to Go from Sole Trader to Limited Company

The process of turning your sole trader business into a limited company needs several precise steps. Each stage from registration to tax setup demands careful attention to make your transition smooth.

Your first task is to register your new company with Companies House. The online registration costs £50 and takes about 24 hours to complete. Your application must have:

• A unique company name (check availability before applying)
• A registered office address
• At least one director and one shareholder (this can be you alone)
• At least one Standard Industrial Classification (SIC) code describing your business activities
• Three pieces of personal information such as your national insurance number, passport number or town of birth

The next task is to set up a bank account for your company. Your limited company needs its own dedicated business bank account. This requirement isn’t just good practise – the law requires limited companies to keep business and personal finances separate. It is also the next step, because it can take time!

Once you have your bank account, you then need to look at transferring your sole trader business into the limited company. In return for transferring the assets into the company, you will receive shares.

You may need to consider obtaining clearance from HMRC to avoid any tax complications down the road. You will also ideally have an asset purchase agreement in place (which can be simple!) to show the transfer across. All of which we can assist with.

Most business owners create a director’s loan account because their new company might not have funds to purchase these assets outright. The company then pays you over time. You might qualify for Incorporation Relief, which lets you delay paying Capital Gains Tax until you sell your company’s shares.

The structural change must be communicated to all your stakeholders. Your customers, suppliers, landlords need to know, and HMRC must receive notification within 30 days of the business structure change.

The final steps focus on tax registration. Register your company for Corporation Tax within three months of starting to trade. PAYE registration becomes necessary before your first payday if you plan to pay yourself or others. Directors count as company employees for PAYE purposes, even without other staff.

What Changes After You Incorporate

Your business faces several key operational changes after incorporation. You must adapt to new financial, legal, and administrative demands.

Very crudely:

In terms of tax, the company now pays corporation tax which is typically paid on an annual basis when the company files its annual accounts.

Companies House requires companies on an annual basis to file accounts, so the public will have access to some of your financial data. There are also stricter requirements for record keeping as result of the filing of the accounts.

There is the annual filing of confirmation statement and various other filings at Companies House that may occur if you make changes to the company.

You may have to think about VAT returns, but you may have had to do so as a sole trader. You may also have to think about the PAYE schemes particularly if you are going to extract cash in the form of a simple salary plus dividend or look to take your first employee on.

You will have to change your mindset as to how you “pay yourself”. You can’t just simply use the cash from the business anymore. As a director/shareholder you will have to be mindful of the rules around dividends and payment out of profit. The same thing applies to the assets of the business as well. Is it you or the company who owns the car etc.

However, do not worry, these are all matters that Whittock Consulting can provide guidance upon.

Conclusion

The shift from sole trader to limited company status marks a most important step for growing businesses. This piece shows two major advantages of this change: tax efficiency when profits exceed £25,000 and vital protection for your personal assets through limited liability.

Companies House approves applications within 24 hours. The conversion process is straightforward, but you’ll first need several vital elements as mentioned above.

Yes okay you will have a bit more administration and some of the business financial data goes into the public domain. However, the growth opportunities via investment or debt financing are much greater and benefit of limited liability can provide piece of mind for early stage business owners looking to expand.

If you think your sole trader business has grown to the point where you think a company may be beneficial, then please come and speak to us. We can help you assess all the pro’s and con’s and put in place a strategy to assist you and your business.

So please get in touch. We’d love to hear from you.