2 – Defining types of business

Last Updated on 8 May 2024

There is a slightly different version of this help sheet for people living in Wales, Scotland or Northern Ireland.

NB: ‘Freelance’ means someone whose income is ad hoc or regularly comes from a variety of clients or employers. It can refer to both employment (e.g. fixed-term contracts) and self-employment. See help sheet 2f for more about defining freelance status and tax for freelancers working in film and TV production.

Are you SELF-EMPLOYED?

You are likely to be self-employed if you:

are risking your own money in some way
are providing your own equipment and training
have a lot of control over your hours
are free to hire others (and pay them yourself)
take on work at an agreed rate – no matter how long it takes to complete
work regularly for lots of different people
have to correct your own mistakes in your own time
are sufficiently expert or specialist that you are not supervised, directed or controlled by someone else when working for them

If you are newly self-employed you should register as a sole trader with HMRC as soon as you start up, and at the latest by the 5th October in your 2nd tax year.

You may fall foul of IR35 legislation if you do work which is effectively employment, even if you are contracted as self-employed, through an agent, or via your own company. (See more via my blog >)

Some types of business:

Sole Trader – one-person business (incl. some freelancers), often referred to as ‘self-employed’, particularly by HMRC

relatively quick and easy (not many forms)
personally responsible for any business losses – business debt is your personal debt
have to keep a record of income and outgoings (see help sheet 4 on record keeping)
usually taxed as self-employed (i.e. income tax paid on profits – see help sheet 3)
used to be known many years ago as ‘schedule D’ (HMRC no longer uses this term)

Partnership (See also Limited Liability Partnership (LLP))

two or more people setting up the same business together
everything business-related is shared – profits, problems…and losses
if one person can’t pay their share of debts, the other partners are liable
usually taxed as self-employed
a “partnership agreement” is highly recommended – get yourself a solicitor

Limited company (See also Community Interest Company (CIC))

the business is an entity in its own right, legally separate from you or anyone else working for it
needs at least one director (company secretary no longer compulsory for small businesses)
you are taxed as an employee of the company (so not as sole trader)
salary payments must be reported to HMRC in ‘real time’ on or before pay day
responsibility for business debts is reduced…though you may be liable for company debts
you can raise money for the business by allowing others to subscribe for shares
you can seek loans in the name of the company (though you may still be personally liable)
company must submit annual accounts, director information, and tax returns
companies pay Corporation Tax on their profits (19%-25% depending on profit level)
you still have to submit your own personal annual tax return (as an employee)
company accounts sent to Companies House, along with details of directors & shareholders

Reasons for setting up a limited company

There are four main reasons people set up a company as opposed to operating as a sole trader:

Managing risk. The business is legally separate from you. For example if the business goes bankrupt you are not necessary personally bankrupt
Sharing ownership. A company can be owned jointly by any number of people. A sole trader is a (sole) person.
You might need to set up a company to get work or funding. Some organisations won’t give money to a sole trader business where they would if the business were a sole trader.
The finances might be more favourable. Corporation tax for a small company is always 19% of profits. Salaries are amongst business costs offset against corporation tax.
On the other hand sole trader profits are taxed through income tax. If a sole trader profits are over £50K-£60K they may be paying 40% tax or higher (42% in Scotland).
If profits are high it may be better to run a company and pay corporation tax, PAYE taxes (income tax and NI) and dividend taxes instead. An accountant will need to advise on whether this is a good idea or not, and you’ll be paying them more for their advice!

Find out more:
www.gov.uk/working-for-yourself – Basic advice on how to start up www.gov.uk/government/publications/setting-up-in-business-se1 – Useful booklet (PDF)
Newly Self-employed Helpline – 0300 200 3504 (mornings are busy; try after lunch and midweek)
www.freelanceuk.com/ir35_ir591 – info on IR35 legislation for freelancers & contractors
www.companieshouse.gov.uk – essential for limited companies
www.youtube.com/user/HMRCgovuk – Yes, the tax office has a YouTube channel
www.gov.uk/cicregulator – more on Community Interest Companies
www.uk.coop – more on Co-operatives
www.simplybusiness.co.uk/knowledge – basically an insurance broker, but has a great blog

One person businesses:

Comparison of sole trader vs limited company

Posted on 30 January 2020