What does a sole trader need to know in the UK?

A sole trader business model is a simple but effective way of running a start-up enterprise. If and when you are ready to expand or to go into a partnership, then there is nothing to stop you. Many self-employed people operate as sole traders for their entire careers. If you are thinking about starting a small business from scratch, then read on to find out more about what you’ll need to do to become a sole trader.

The advantages of operating as a sole trader

Although other business structures exist for people who work for themselves, sole trading remains popular because it is relatively simple. Sole trader accounts can be kept in the easiest way, with the cash accounting method being accepted by HMRC during your self-assessment tax declaration at the end of the tax year, for example. Business accounts can become quite complex, especially once your turnover rises above £85,000 a year which means you’ll need to be VAT-registered. For most people with relatively modest annual profits, working as a sole trader makes sense because they can account for all of their expenditure and business expenses without needing to be a financial expert.

Although being a sole trader means you cannot have a business partner, it does mean you have to register properly with HMRC as someone who runs his or her own business. In the tax year 2017-18, anyone who earned more than £1,000 from income derived from self-employment – regardless of how much they might have also earned as an employee – needed to register for an annual self-assessment tax return. This means that the sole trader model is ideal for people who work already and who are looking to transition to self-employment as they build their business up on a part-time basis. Individuals who are sole traders are not registered as a limited company. This means they have unlimited liability over any debts they accrue which are held in their own name, rather than their company’s. Unlimited liability may sound scary but it is no more than committing to repaying any loans you take out from creditors or settling your purchase invoices if your suppliers afford you any level of credit.

Choosing a business name as a sole trader

You may not use ‘Ltd’ at the end of your trading name unless you are operating as a limited company. Since limited companies which have registered with Companies House must account for their tax in a more thorough way than sole traders, this should not be too much of an issue. However, sole traders who use ‘Ltd’ will find themselves in trouble with the tax authorities for doing so. In fact, many sole traders choose their own name as their business name. The idea is that the service or products sold by the business are from the individual supplying them and there is a direct link which clients immediately recognise.

That said, you don’t have to use your personal name to be a sole trader, operating with a business structure that is tailored around the individual. You could use a brand name instead – so long as it is not already registered as a trademark elsewhere – or something you have simply made up. Hand-selecting a trading name is a good idea if you have plans to expand into a bigger enterprise down the line and subsequently register with Companies House as a limited liability company once your turnover is high enough to warrant this shift. For the first few years, you can use almost any name you like. The one thing the government advises is that your trading name should not be ‘offensive’ but it offers no guidance on what this really means. Common sense should apply, however.

Working out what tax you are liable for as a sole trader

At the end of the financial year, you will need to make your books up. This means adding up your total income from self-employment. From this figure – known as your annual turnover – you then deduct any business expenditure. You may have paid sub-contractors to do work for you, or you might have bought in goods which you resold or added value to in some way by working on them. By subtracting your annual expenditure from your turnover, you can come up with your gross annual profits. Essentially, this profit figure is what you will pay tax on when you complete a self-assessment form.

As such, few people require an accountant to work out how much income tax to pay. It is only when they want to claim back VAT or because they already have complex tax issues from other earnings – such as from land they might own – that an accountant would be needed. Given that most self-employed people only have incomes derived from their gross profit, sole trader accounts can usually be completed without any in-depth accounting knowledge.

However, you will need to pay National Insurance Contributions, otherwise known as NICS, when you complete a self-assessment tax return, too. In the UK, the National Insurance Contributions that all self-employed people need to make are called Class 4 NICs. This includes sole traders. When you complete a self-assessment online, your tax return is worked out for you automatically when you submit your business accounts. This means that you’ll see how much income tax you owe for the financial year in question, as well as what you are expected to pay for NICs. Class 4 NICs are charged at a percentage of your total income but – just like income tax – this is only liable after you have passed a threshold of earnings. This threshold figure changes but, for guidance, it was earnings over £8,060 in 2015-16.

The government encourages sole trading small businesses to sort out their tax online. Tax digital services have led to superior collection rates for the government since they were introduced. Register with HMRC before you try to complete an online tax return because you will need a Unique Tax Reference, or UTR, before you can proceed.

What business expenses can sole traders claim?

An expense is something you have paid for which you use for your business. You cannot claim for your shopping, for example, because this is for personal use. However, some items, like footwear, might be allowed. This would only be the case if the footwear in question was used in the course of your work, such as steel toe-cap working shoes or boots on a building site. Don’t try to claim an item as an expense if it is not used in your own business. For example, things that have been bought as gifts are not usually allowed. If you are unsure whether an item you are hand-selecting from your purchases is a legitimate business expense or not, then err on the side of caution or seek professional advice.

Sole trading regulations

You can take on employees as a sole trader. If you choose to do so, then you will still need to operate as the sole owner of the enterprise. Bear in mind that you will also need to pay any tax liabilities that are due from employing staff whenever you complete a payroll because employees are taxed as they earn, unlike self-employed people.

Anyone can be a sole trader but you need to remember that certain professions require a license in order to work in them. For example, childminders need to register with Ofsted or the Care Inspectorate in Wales. Anyone running a restaurant or operating as a taxi driver also needs to register with their local council in order to work legally.