When starting a business in the UK, one of the first decisions you’ll need to make is whether to be self-employed or set up a limited company. This choice can have significant legal, financial, and tax implications for your business. To help you decide, we’ve broken down the differences, pros, and cons of each structure and what you should consider before making a choice.
What does being self-employed mean?
Being self-employed means you operate your business as an individual, taking full responsibility for its success or failure. You don’t have a separate legal entity - your business and personal finances are treated as one. Most self-employed individuals register as sole traders, although partnerships are another option.
As a sole trader, you’ll need to register with HM Revenue & Customs (HMRC) and submit a Self Assessment tax return each year to declare your income and pay tax on your profits. You can learn more in our guide to sole traders vs limited companies too.
What are the pros and cons of being self-employed?
| Pros ✅ | Cons ❌ |
| Setting up as a sole trader is quick, straightforward, and involves minimal paperwork | Your personal assets are at risk if your business incurs debt or faces legal action |
| There are fewer upfront costs compared to setting up a limited company | Self-employed individuals may pay higher income tax and National Insurance Contributions compared to limited companies |
| You have complete control over your business operations and decision-making | Larger clients may view a sole trader as less credible than a limited company |
| There’s no need to file accounts with Companies House, reducing admin | As your business grows, operating as a sole trader could become less tax-efficient |
What is a limited company?
A limited company is a separate legal entity from its owners (known as shareholders) and managers (directors). This structure offers limited liability protection, meaning your personal assets are protected from business debts or liabilities. To set up a limited company, you’ll need to register with Companies House and file annual accounts and tax returns. Limited companies pay Corporation Tax on profits rather than income tax.
What are the pros and cons of a limited company?
| Pros ✅ | Cons ❌ |
| Your personal assets are protected, reducing the financial risk | Limited companies have stricter reporting requirements, including filing accounts with Companies House |
| Limited companies can sometimes benefit from lower tax rates | There are costs associated with incorporating a company and ongoing compliance |
| Operating as a limited company can enhance your business’s reputation | You’ll need a dedicated business bank account for a limited company |
| A limited company structure is better suited for businesses aiming to attract investment or scale operations | Your company’s financial details and director information are publicly available via Companies House |
What's the difference between being self-employed and a limited company?
While both structures allow you to run your business, the key differences lie in legal status, liability, taxation, and administrative requirements.
| Aspect | Self employed | Limited company |
| Legal status | You and your business are the same legal entity | The company is a separate legal entity |
| Liability | Unlimited liability - you’re personally responsible | Limited liability - personal assets are protected |
| Taxation | Pay income tax and NICs on profits | Pay Corporation Tax on profits, plus income tax on dividends |
| Setup process | Quick and simple - just register with HMRC | Requires incorporation with Companies House |
| Reporting requirements | Minimal reporting - Self Assessment tax return | Must file annual accounts and confirmation statements |
| Reputation | May be perceived as less professional | Often seen as more credible and professional |
What to consider when picking your business structure
Choosing the right business structure is one of the most important decisions when starting or growing a business. Your choice will affect everything from your tax obligations to your day-to-day operations. Here are some critical factors to weigh up:
Liability and risk
The level of risk your business might face should influence your decision. If your business could encounter potential legal disputes, a limited company provides limited liability protection. On the other hand, being self-employed means you’re personally responsible for all debts and liabilities, which can be riskier for businesses in volatile or high-cost industries.
Tax efficiency
Tax implications are a key consideration.
- Self-employed: Profits are subject to income tax rates and National Insurance Contributions (NICs), which can be higher for high earners.
- Limited company: Companies pay Corporation Tax on profits, and directors can take a mix of salary and dividends to manage personal tax liability. This structure can be more tax-efficient for businesses with higher earnings.
Administrative burden
Operating as a sole trader is simpler, with fewer reporting requirements. You’ll only need to submit a Self Assessment tax return each year. In contrast, a limited company requires:
- Registration with Companies House
- Filing annual accounts and a confirmation statement
- Preparing and submitting Corporation Tax returns
If you prefer minimal paperwork, self-employment might be the easier option.
Reputation and credibility
The perception of your business can influence client and partner relationships. Many larger companies prefer working with limited companies as they are seen as more professional and established. If your business relies on building trust or attracting investors, a limited company might provide the edge you need.
Growth and scaling
If you plan to grow significantly, expand internationally, or attract outside investment, a limited company is often the better choice. Its structure makes it easier to bring in shareholders, raise capital, or formalise contracts with stakeholders.
Flexibility
Self-employment offers flexibility in managing your business and income. However, a limited company structure allows for more sophisticated financial management, such as splitting income between salary and dividends or reinvesting profits tax-efficiently.
What do you need to start a limited company?
Setting up a limited company requires some preparation, but the process is relatively simple when you know the key steps:
1. Company name
Your business name must not already be registered at Companies House. It should comply with legal naming rules and not include restricted words without permission.
2. Registered address
You’ll need an official UK address where correspondence from HMRC and Companies House can be sent. This address will be publicly available.
3. Company directors
At least one director is required to oversee the company. They must be over 16 years old and not disqualified from holding such a position.
4. Shareholders and shares
A limited company needs at least one shareholder. You’ll decide on share allocation and the rights attached to them.
5. Memorandum and articles of association
A memorandum and articles of association are legal documents that outline the company’s purpose and internal rules. Templates are available during the registration process.
6. Incorporation documents
To register, submit Form IN01 to Companies House, including details about directors, shareholders, and the registered office.
7. Business bank account
A separate business account ensures clear financial records and compliance with HMRC.
FAQs
What’s the difference between being self-employed and limited company?
The primary difference is that a limited company is a separate legal entity, offering limited liability protection and potential tax benefits. Being self-employed means you and your business are legally one and the same.
Is it better to be an Ltd or self-employed?
This depends on your circumstances. For simplicity and lower initial costs, self-employment is ideal. For liability protection, credibility, and tax efficiency, a limited company is often better.
Can I switch from self-employed to a limited company?
Yes, you can transition from self-employment to a limited company as your business grows or your needs change. This involves incorporating your company with Companies House and adjusting your tax and accounting practices.
Final thoughts
Choosing between self-employed and limited company structures is a crucial decision that impacts your legal responsibilities, tax obligations, and business operations. Whether you choose to go it alone as self-employed or establish a limited company, setting up the right foundation is key to long-term success.
Looking for legal help? Get in touch today to see how our small business lawyers can help.
References
- Working for yourself from Gov.UK
Disclaimer: This article only provides general information and does not constitute professional advice. For any specific questions, consult a qualified accountant or business advisor. Bear in mind that tax rules can change and will differ based on your circumstances.