A sole trader (also known as a sole proprietor or sole proprietorship) is an unincorporated business structure, and one of the simplest ways to start a business. In a sole proprietorship, one individual runs and owns the entire company. They typically have full control of how the business is run and sole autonomy when it comes to building the company’s brand.
A sole trader is often the only person who works for the business they have created. However, a sole trader can still have employees but when taking on members of staff, they must register as employers and register for PAYE.
People may become sole traders alongside full or part-time employment as long as all profits are reported to HMRC. As a sole proprietorship grows, it may be advantageous to restructure as a limited liability company in line with the company’s expansion.
Sole trader examples
Many smaller retailers are set up as sole proprietorships. Common examples include:
These include construction workers, gardeners, landscapers, joiners and handymen. Sole traders in the UK should register for the Construction Industry Scheme (CIS) if working as a contractor or subcontractor in the construction sector.
Freelancers working in the digital and creative industries are often also sole traders. These include graphic designers, web designers and developers, copywriters, marketers and social media specialists.
Gig economy workers
Those who work in the gig economy are also typically sole traders, whether they manage their business alongside a day job or commit to it full-time. This includes taxi drivers, couriers, delivery drivers and tutors.
Tax responsibilities as a sole trader
A sole trader keeps all of the company’s profits after tax has been paid on them, rather than having to share profits with a partner or shareholders. They also accept sole liability for paying tax on their profits. Unlike incorporated companies, sole traders do not pay corporation tax. Instead, they pay income tax.
Tax is paid not on a sole trader’s turnover, but on their profits. As such, it is a sole trader’s responsibility to maintain a detailed profit and loss schedule and use this to fill out their Self-Assessment tax return every year. While they may use an accountant or bookkeeper to help with this, the ultimate responsibility for tax liability lies with the sole trader rather than any entities that have assisted in preparing their books.
If a sole trader in the UK earns above £85,000, they must register for VAT and send a VAT return to HMRC every year. Sole traders may voluntarily register for VAT if their annual turnover is lower than the VAT threshold.
There are many reasons why sole traders may wish to voluntarily register for VAT. As well as giving the company a sense of success and scale, it also enables sole traders to reclaim the VAT they pay on their operating costs.
Pros and cons of setting your business up as a sole trader
Sole proprietorships are advantageous because they are easy to set up and dismantle. Taxes are often simpler to calculate for these business structures than they are for partnerships or incorporated companies. Sole traders in the US, for instance, can use their own social security number to pay SSN taxes rather than needing an employer identification number.
Likewise, UK sole traders need only report their income and expenditure via a relatively simple Self-Assessment, paying income tax on their profits. Furthermore, the business owner is entitled to all of the profits the company makes after tax. However, as they are not incorporated, they lack the liability protections extended to LLCs.
- quick and easy to set up
- easier tax with pass-through tax advantage in the US
- less administration
- lower costs
- sole traders have unlimited liability
- can be harder to raise business capital as a sole trader
- fewer tax planning opportunities as tax is paid on income in the same year it is earned
How to get started as a sole trader
In order to start out as a sole trader, you must first register as self-employed with HMRC. You can do this while still working a day job, and can even begin trading alongside your existing job as long as you declare all of your income from business as a sole trader. This can be done quickly and easily online, as can registering for self-assessment.
It is advisable to inform HMRC as soon as you start trading. However, the deadline for application is the 5th of October in the financial year after you start trading.
Depending on the nature of your business, you may also need to:
- look into any permissions needed from local authorities
- set up a business bank account (not a legal requirement for sole traders, but advisable nonetheless)
- register for VAT if appropriate
- look into appropriate business insurance
- find an appropriate space in which to operate
- register with the Construction Industry Scheme (CIS) if you are a contractor or subcontractor
- register a Pay As You Earn (PAYE payroll scheme and choose a pension provider if you are going to have employees
- look into securing startup capital via business grants or loans
Frequently asked questions about sole traders
How do sole traders pay their taxes?
Sole traders in the UK submit a Self-Assessment tax return every year and pay tax on all of their profits above the tax-free threshold for that year. Sole traders in the US must fill out Form 1040 and Schedule C on their tax returns every year.
How do I switch from sole proprietorship to a limited company?
In the UK, sole traders must form a limited company and notify HMRC of the change, as well as de-registering as self-employed. Sole traders in the US need to file articles of organisation with their state secretary, and obtain an employee identification number from the IRS.
Is a sole trader the same as a freelancer?
Not necessarily. A sole trader is a type of business structure while freelance describes the way in which individuals and companies work. While many freelancers are sole traders, they can structure their business as a limited liability company or partnership if they wish.
Can sole traders take on employees?
Yes. A sole trader does not have to be a solo operator. Sole traders can, and do, take on workforces of their own. These can be employees or independent contractors who are hired on a freelance basis. If, however, a sole trader takes on employees they have a legal obligation to enrol in a PAYE scheme and provide a workplace pension.
Do sole proprietors need to register at Companies House?
No. Only incorporated companies need to register at Companies House and they do not need a company registration number. They simply need to register with HMRC for Self-Assessment.