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What are the legal requirements for sole traders?

June 1, 2022
This article has been written and edited in collaboration with SeedLegals. SeedLegals is the one-stop platform for all the legals you need to start, raise and grow your company. Trusted by 35,000+ startups, SMEs and investors. Backed by Index Ventures, it is the UK's #1 for early-stage funding rounds, cap tables & share option schemes, with a growing presence in Singapore, Hong Kong, Ireland and France.

Setting up your own small business can be exciting — but have you considered the legal requirements for becoming a sole trader?
Legislation surrounding sole trader activity is relatively simple, requiring registration with HM Revenue and Customs (HMRC) for Self Assessment and paying your Income Tax and National Insurance on time. Depending on the type of business you are running, you’ll need to think about the type of business insurance you might need.

In this article we’ll cover the legal obligations associated with being a sole trader, and what you’ll need to do to meet your obligations as a new business owner.

What is a sole trader?

A sole trader is a self-employed person where, in the eyes of HMRC, you're seen as a singular legal entity with your business. This contrasts limited companies, who are seen as a separate legal entity and, as a result, have limited liability for if the company comes into financial trouble.If you are earning over £1,000 per tax year as a sole trader from self-employed work in the UK, you must legally register with HMRC.While, on the bright side, legislation for sole traders is less complex than other legal structures, there are still a few obligations you’ll need to take into consideration when getting started. You’ll be the only beneficiary of your business’s accomplishments, so you will also be solely responsible for keeping in line with the legal obligations and deadlines.There is definitely more personal risk involved as well as greater responsibility in making sure your business fulfils all the requirements, but if you are the only employee, administration is ultimately simpler.
Registering for Self Assessment
When setting up as a sole trader, the first legal hurdle is registering for Self Assessment.

Once you’ve registered, HMRC will officially consider you self-employed and will generate a Unique Taxpayer Reference (UTR) which you’ll need to file your Self Assessment tax return at the end of the tax year. Failing to register with HMRC as a sole trader can lead to fines, so it’s important to do this early on.

You don't need to register with Companies House — this is only necessary if you’re setting up a limited company (which you can find out how to do here).

While you don’t need to pay Corporation Tax on any of your business’s earnings, you will need to pay Income Tax on your earnings.By midnight on 31st January, you are legally required to send a Self Assessment tax return to HMRC to update them on your yearly expenditures and income. You'll also need your UTR to pay your Self Assessment tax bill by the same deadline or you’ll be fined.You’ll only need to pay Income Tax on your taxable income, which can be worked out using the following:
Taxable profit = Total profit - Business expenses
Income Tax is a tax on any income you’ve made in the previous tax year, including wages or earnings from work, interest and dividends from savings and investments and some state benefits.Depending on how much you earn and where you live in the UK, you’ll be placed in a certain tax bracket which calculates the total amount of tax you owe. Regardless of where in the UK you reside, as a sole trader the first £12,570 you make is known as your Personal Allowance, and is not taxed.

England, Wales and Northern Ireland 2022/23 Tax Bands

BandTaxable IncomeTax Rate
Personal AllowanceUp to £12,5700%
Basic Rate£12,571 to £50,27020%
Higher Rate£50,271 to £150,00040%
Additional Rate£150,000+45%
Source: gov.uk

Scotland 2022/23 Tax Bands

BandTaxable IncomeTax Rate
Personal AllowanceUp to £12,5700%
Starter Rate£12,571 to £14,73219%
Basic Rate£14,733 to £25,68820%
Intermediate Rate£25,689 to £43,66221%
Higher Rate£43,663 to £150,00041%
Top Rate£150,000+46%
Source: gov.uk

National Insurance
As a sole trader, you’ll need to pay National Insurance contributions (NICs) on your income, but unlike full-time employees who only pay Class 1 National Insurance, you’ll need to pay Class 2 National Insurance and Class 4 National Insurance contributions.

While Class 4 is automatically calculated and included in your taxes, Class 2 is calculated on a weekly basis.
Business name
As a sole trader, you don’t necessarily need to register business name, and can run your business under your own name if you wish. However, this doesn’t prevent other companies from using your business name as their own, so you want your business name to be unique you’ll need to trademark it.If you do choose to trademark your business name, you’ll need to make sure it complies with HMRC’s sensitive or offensive language requirements and doesn’t include any of the these phrases:●       ‘Ltd’●       ‘limited●       ‘LLP’●       ‘limited liability partnership’●        ‘plc’●       ‘public limited company’
You’ll also need to make sure your chosen business name is available to use and hasn’t already been trademarked, which you can do with our Business Name Availability Checker. If you're struggling to come up with the right name, check out our guide to choosing the right name for your sole trader business.

Managing your earnings and expenses
As with all businesses, you must keep detailed records of your business’s earnings and expenses. Make sure to stay organised so you’re prepared for the end of the tax year with records of:
Keeping detailed records is particularly important if there are any accounting errors as they will personally reflect on you.
Insurance
Depending on what type of business you are running, you might legally be required to get insurance. The most common types of insurance you’ll need as a sole trader are:

    Vehicle insurance, if transportation is part of your businessPublic Liability Insurance, if your business has direct contact with customersEmployers’ Liability Insurance, if you hire employeesProfessional Indemnity Insurance, if your business’s mistakes could have damaging consequences for your clienteleBuilding and Contents InsuranceBusiness Assets and Equipment CoverGoods-in-Transit Insurance, if your business functions online and you regularly mail your products to customers
Hiring Employees as a Sole Trader
Once you hire your first employee, you need to register as an official employer with HMRC and sign up to Pay As You Earn (PAYE) at least five working days before your business’s first payday.

After registering with HMRC, your legal responsibilities as an employer include:
    Set up Employers’ Liability InsuranceCreate a written employment contractCreate a written statement of employment particularsDecide on a salary that is above the National Minimum Wage
GDPR
As of May 2018, sole traders must keep the General Data Protection Regulations (GDPR) in mind when collecting data from their clients.You don’t need a designated protection officer - especially if you choose not to hire any employees - but you must keep records of your clients’ consent or risk being fined up to 4% of your annual income.These records must, by GDPR regulations, show how and when  you were granted explicit consent, for what purpose, and for how long their consent is considered valid.

What are the advantages and disadvantages of becoming a sole trader?

There are a lot of advantages that come with being a sole trader, such as:
    Being your own boss, getting to choose the work you do and the hours you work.Total control over your business, where all creative and administrative decisions are yours alone.Keeping all profits after tax, especially if you choose not to hire any staff.Minimal paperwork, only needing to register for Self Assessment with HMRC and then continue keeping records.
However, no business structure is perfect. Running a sole trader business also comes with some drawbacks:
    Unlimited liability, meaning that your personal assets are at risk should your business come into financial difficulty. Business name is not exclusively yours and can be used by other companies. You can apply to register a trademark, but this can be expensive and time-consuming. Can be less tax efficient if you are a high earner — you can use our Sole Trader vs. Limited Company Savings calculator to see which legal structure is best for you.

Final thoughts

Starting your own business in the UK can be just as daunting as it is exciting with all the necessary legal and financial requirements.If you choose to start this journey as a sole trader however, it simplifies the legal requirements to just a few steps so you can focus on your business.Just remember to keep detailed records for yourself and HMRC, and submit your tax returns on-time to avoid fines.

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