How do I switch from being a sole trader to a limited company?

Many freelancers become sole traders when starting out in business, seeing this as the right option for them at the time. What happens if you want to form a company in the future?

As with everything, there are pros and cons to both the sole trader and limited company routes.

The best way to work and structure your business depends on your circumstances, which can change.

Becoming a sole trader is usually the simplest way to start in business, although there may come a point when operating through a limited company makes more sense.

Importantly, if you want to be a professional contractor, most clients will only hire you if you work through a company.

In this guide, Christian Hickmott, MD of Integro Accounting, explains why switching from a sole trader to a limited company needn’t be an arduous task.

How to switch from Sole Trader to Limited Company

Advice on which structure is best for you

While working as a sole trader can be the simplest option when starting up, there isn’t a set income level at which you should automatically switch to a limited company.

Whether a company is more tax-efficient will depend on your profits, how you take money from the business, Corporation Tax and personal tax rates, accountancy costs and your wider circumstances.

Speaking with a qualified accountant who specialises in small businesses will enable you to give them the full picture of your income and work status so they can recommend which structure is right for you and explain the tax implications.

Setting up and registering a Limited Company

As a sole trader, you and your business are the same legal entity, whereas a limited company is an entirely separate legal entity from its shareholders.

You must incorporate a limited company via Companies House, which involves choosing a name and formally appointing at least one director and shareholder.

Read our popular 10-step guide to setting up a limited company.

It’s also important to note the director’s responsibilities, such as preparing and submitting annual Corporation Tax returns and company accounts.

You can form a new company yourself (directly with Companies House) or through a formation agent, or an accountant can manage the entire set-up process on your behalf.

Advise HMRC of your change in circumstances

As you will no longer be a sole trader (self-employed), you must advise HMRC – you can do this online.

File your last self-assessment tax return applicable to your sole trader income

You’ll need to include your final period of sole trader income on your Self Assessment tax return and submit it by the usual deadline.

You may still need to complete Self Assessment after forming your limited company, depending on your personal income and circumstances, or if HMRC asks you to file a return.

Are you VAT registered?

If you’re VAT registered as a sole trader, don’t assume you simply need to cancel the registration and start again.

You may be able to transfer your existing VAT registration to the limited company when the business changes legal entity. Alternatively, you may need to cancel the old registration and register the company separately.

Your accountant can advise on the best approach and make sure the change is dealt with correctly.

Payroll and paying your salary

If you had any employees while working as a sole trader, you will need to deal with your existing PAYE scheme and make the appropriate final payroll submissions to HMRC.

If you’re going to pay yourself a salary through the new company, the company may also need to register as an employer and operate PAYE.

A company director is an office holder and is not automatically an employee for employment law purposes, although directors’ salaries are generally dealt with through PAYE.

Transferring Assets

If you’ve obtained assets relevant to your limited company through your sole trader business, such as equipment or machinery, you might need to transfer them into the limited company name.

The new limited company can purchase these from you where funds are available. However, if there aren’t sufficient funds in the business, your limited company could pay you gradually—this would then become a director’s loan.

Transferring a sole trader business or its assets into a limited company can have tax consequences, so this is an area where it’s worth taking advice from your accountant.

Check your existing contracts

Remember that your new limited company is legally separate from you as a sole trader.

If you already have contracts with clients, suppliers or other businesses, check what needs to happen before the company takes over. You may need a new contract or agreement to transfer the existing arrangement to the limited company.

This is particularly important for contractors, as future invoices and payments should be made under the correct contracting entity.

Open a business bank account for the limited company

As mentioned, the limited company is a separate legal entity from yourself; any transactions relating to the limited company must be paid through the company and not you as an individual.

As a result, you need to open a separate bank account in your limited company’s name.

If you’re using online bookkeeping software, don’t forget to enable the bank feed for your new account.

Lastly, remember to communicate the change to clients and stakeholders

Your website, business cards and stationery should reflect your new company details.

Any invoices you issue from now on should be in your limited company’s name.

Notify any suppliers, contractors, and lenders, and check whether you need to change anything, such as your business insurance.

Want to hear from someone who’s been through it themselves?

Here at Integro, one of our clients has shared their experience of switching from sole trader to limited; giving insight from the perspective of someone who’s been through it themselves, even changing back to sole trader again later down the line.