If you are running a growing business, one question tends to come up again and again: should you stay a sole trader, or set up a limited company? It is one of the most common things clients ask us, and the honest answer is that it depends on your numbers, your plans and how much administration you are happy to take on. This guide walks through the differences in plain English so you can weigh it up with confidence.
The two structures in plain English
As a sole trader, you and your business are legally the same thing. You keep the profits, you report them through Self Assessment, and you pay Income Tax and National Insurance on what you earn. It is simple to set up and light on paperwork, which is why so many sole traders and freelancers start out this way. If you are in business with someone else on the same basis, a partnership works in much the same way, with profits shared between the partners.
A limited company is a separate legal entity. The company owns the business, earns the money and pays Corporation Tax on its profits. You typically become both a director and a shareholder, taking money out as a mix of salary and dividends. The trade-off for that structure is more formal reporting: annual accounts filed at Companies House, a Corporation Tax return, and usually a payroll and director's Self Assessment on top.
How the tax compares
For a sole trader, profits are taxed at the usual Income Tax rates once you pass your personal allowance of £12,570, alongside Class 4 National Insurance. In 2026/27 Class 4 is charged at 6% on profits between £12,570 and £50,270, and 2% on anything above that. Class 2 National Insurance no longer has to be paid, though you can pay it voluntarily to protect your State Pension record if your profits are low.
A limited company pays Corporation Tax instead. The small profits rate is 19% on profits up to £50,000, and the main rate is 25% once profits pass £250,000. Between those two figures, marginal relief applies, so the effective rate climbs gradually rather than jumping. You then pay personal tax on whatever you draw out. Dividends have their own, lower tax rates — 8.75% for basic-rate taxpayers, 33.75% for higher-rate and 39.35% for additional-rate — and the first £500 of dividends each year is tax-free thanks to the dividend allowance.
Because dividends are not subject to National Insurance, a carefully planned mix of a modest salary and dividends can be more tax-efficient than drawing the same amount as a sole trader — but only once profits reach a certain level. Below that level, the extra running costs of a company can wipe out the saving. There is no universal break-even figure; it depends on how much you need to take out, whether a spouse is also a shareholder, and what you plan to reinvest.
It is not only about tax
Tax tends to dominate the conversation, but it is rarely the whole story.
Limited liability is often the deciding factor. As a sole trader, your personal assets are exposed if the business runs into debt or a claim. A limited company generally ring-fences your personal finances, which matters more in some trades than others.
Credibility and contracts can also tip the balance. Some larger clients, lenders and suppliers prefer — or insist on — dealing with a limited company. If you are chasing bigger contracts, incorporation can open doors.
Admin and cost pull the other way. A company means more filing, stricter deadlines and, usually, higher accountancy fees. Your profits also become a matter of public record at Companies House, which some business owners would rather avoid.
Privacy and simplicity are why plenty of profitable businesses happily stay as sole traders for years. If your margins are good and you take out most of what you earn, the added complexity of a company may simply not be worth it.
Making Tax Digital changes the timing question
There is a new reason to think about structure sooner rather than later. Making Tax Digital for Income Tax is being phased in for sole traders and landlords: from April 2026 for those with qualifying income above £50,000, from April 2027 for income above £30,000, and from April 2028 for income above £20,000. If it applies to you, you will need to keep digital records and send HMRC quarterly updates rather than filing once a year.
That does not make incorporation necessary — most affected sole traders will simply adopt compatible software and carry on. But if you were already weighing up a limited company, the arrival of quarterly reporting is a natural moment to review the whole picture at once, rather than changing how you work twice in quick succession.
So which is right for you?
There is no one-size-fits-all answer, and it genuinely changes as a business grows. A useful rule of thumb is that the case for a limited company strengthens as your profits rise, as you start leaving money in the business rather than drawing it all out, and as limited liability or client requirements become more pressing. If you are still finding your feet, keeping things simple as a sole trader is often the sensible choice — and you can always incorporate later.
The most expensive mistakes we see come from switching structure for the wrong reason, or at the wrong time, without running the numbers first. A short conversation and a quick projection based on your actual figures will usually make the answer obvious.
If you would like us to run those numbers for you, we would be glad to help. You can get an instant quote for our support, or book a call to talk through whether staying a sole trader or moving to a limited company makes the most sense for you.
This article is general guidance, not personal tax advice. Your circumstances may differ, so please get in touch for advice tailored to you.