Employed F/T with own business - tax implications of limited company vs sole trader

[flora01]

Hello.

I am about to set up a trading business to run part-time alongside my full-time job. I will have separate bank accounts and plan to keep any profit within the business rather than use it for personal expenditure.

It seems like it would be better to set up a limited company than be a sole trader, given that my full-time job will take all my tax allowances. As I understand it, if I keep earned profits within the capital of the limited company, I am only liable for corporation tax and even then, only above a certain threshold; I would thus only be liable to pay income tax on the money I 'withdraw' from the business as dividends for personal expenditure (aka the Amazon model). Whereas if I act as a sole trader, profits come under personal income, so there is no tax-free element (because my full-time job will have already taken up the tax-free allowance).

Therefore, I hope someone can confirm/deny my understanding that it is better for me to set up a limited company than a sole tradership. TIA.

 

[bridgetbride]

@flora01 Well yes you'd only be liable to pay income tax on money you actually take because until that point it wouldn't be your money - it will be the company's. They would need to pay corporation tax on it before it could be paid as a dividend to you.

What threshold do you think applies to corporation tax?

 

[flora01]

@bridgetbride !thanks

According to gov.uk corporation tax is 19% whereas income tax is 20%. But (and this is the bit I am unsure about how it works in practice) if I reinvest the profits fully as I expect to be doing for the first few years, then I do not need to pay tax personally until I withdraw the capital as dividends.

 

[bridgetbride]

@flora01 The company pay corporation tax on profits. Profits are revenue minus allowable expenses.

Once corporation tax is paid, you can pay yourself a dividend from any remaining profit which you would pay income tax on. But at the dividend rates. So if basic rate, the company pays 19% then you pay 8.75% on the remaining 81%.

You should probably consult an accountant to ensure you choose the right business model for you.

 

[flora01]

@bridgetbride !thanks

 

[jdmsn]

@flora01 Please note that it's 19% up to 50k, then increases to 25% (from April 2023) anything over that for small businesses.

I would advice an accountant, I would also consider something like free agent or Xero. You've commented a separate business account which is great, then you hook up the accounting tool and the new bank account if supported and make your life easier that way. I believe NatWest provide free agent for free, but don't know what the bank account costs are.

You then have certain allowances such as business mileage if you did it, trivial benefits and so on, again speak to an accountant.

It's an exciting thing to do, but keep on top of the paper work and always make sure you're up to date

Edits: added date as to when corporation tax changes.

 

[flora01]

@jdmsn !thanks

 

[jb21]

@jdmsn

Please note that it's 19% up to 50k, then increases to 25% anything over that for small businesses.

Not yet it isn't !

Maybe for 2023/24 if there's not yet another change of Chancellor and another flip flop of policy...

Also if it actually gets enacted, then there's a sliding scale of relief up to £250K.

 

[jdmsn]

@jb21 Sorry, was distracted by children, I should have re-read my post. From April 2023

 

[elery]

@flora01 If you have a limited company then you need to submit company accounts every year. These are not trivial to do yourself and an accountant charge anywhere from £400-upwards to prepare them for you. Make sure you factor this cost in.

You also have a tax free allowance on dividends each year, which is currently £2,000, but dropping to £1k in April 23.

 

[keepwishfulthinking]

@flora01 Depends on how much you earn from your full time job, and how much profit you expect to generate from this side business.

If you're a higher earner (approaching or above £50k), it'll probably be worth going Ltd Co.

If you're currently a low earner, you may be better off sole-trader/self assessment route.

If you're currently earning a reasonably high income, and also expect the side business to be fairly profitable, you have a £2k tax free dividend allowance (dropping to £1k next year), HOWEVER you can stick up to £40,000 per year into a SIPP pension as Employer Contributions, which is a Corp Tax deductible expense.

Edit: I always advise anyone to speak to a few local chartered accountants for an initial consultation, and to utilise their services for things like Annual Accounts etc, if you go the Ltd Co route.