If you are planning to set up your own business, you will want to consider your options carefully. You can operate your business either as a sole trader, as a limited company, or as a partnership. There are advantages and disadvantages to all three methods, some of which are set out below. Given the different legal implications of this decision, it is worth consulting your solicitor for advice about which option would be best in your particular situation.
Trading as a sole trader
Being a “sole trader” means running your business as an individual. The business is not a separate legal entity, which means that the business cannot earn profits or be responsible for anything itself. You keep all of the profits of the business, and pay income tax just as you would if you were employed. However, you are also personally responsible for paying for the costs of running the business, as well as any business losses.
The benefits of trading as a sole trader are that it is simple to register as self-employed with HM Revenue and Customs, and that it imposes only minimal business obligations, such as to keep records of your sales and spending. However, it offers you no legal protection, since your business is not a separate legal entity.
Trading as a company
Setting up a “limited company” means setting up a separate organisation to run your business. The business is a therefore a separate legal entity, which is responsible for its own actions and finances. Any profits are earned by the company, not by anyone personally, and the company pays corporation tax, rather than income tax. The company may then share its profits with other companies or individuals who own shares in that company.
The advantages of trading as a limited company are, firstly, that corporation tax is currently significantly less than income tax, but also that your legal responsibilities are limited to, for example, the value of your unpaid shares in the company. However, if you are a director of the company, you will be liable to fulfil various legal obligations, including keeping copious financial accounts.
Trading as a partnership
Trading as a “partnership” means running your business with one or more partners. Unlike a limited company, your business is not a separate legal entity, which means that you share the profits of the business with your partners, paying income tax on your share. However, it also means that you are personally responsible for your share of any business losses. You can limit this liability by setting up a “limited liability partnership”, where you are only responsible to pay debts up to the amount you invest in the business.
Therefore, although trading as a partnership is inherently less risky than trading as a sole trader since you are only liable for your share of the business, it does not put you in as secure a legal position as setting up a limited company. Nevertheless, it avoids the onerous obligations that are imposed on directors of limited companies.