Being a sole trader means you’re a self-employed person in complete control of your own business. But how do you register as a sole trader, and what responsibilities do you have? Let’s take a look.
Registering as a sole trader
First, let’s be clear on what it means to be a sole trader so you can decide if it’s the right option for you.
As the name suggests, you’re the sole owner and manager of your business. It’s not a separate legal entity, like a partnership or a limited company, so you’re personally responsible for what happens to it.
Essentially, you are responsible for:
- Completing your self-assessment tax returns on time
- Paying Income Tax (and VAT, if you make over £85,000 per year)
- Covering business losses and expenses (yes, you’re personally responsible for these costs)
- Paying Class 2 and Class 4 National Insurance contributions (NICs)
Don’t let the responsibilities deter you, though – it’s easy to get started, and it’s a great option for small business owners. So, if you’re ready to set up shop as a sole trader, here’s a step-by-step guide.
1. Choose a business name
To register as a sole trader, you need to pick a name for your business. It doesn’t need to be fancy and there’s no need to trademark it.
There are some rules to bear in mind, though. You can’t:
- Include any words that make it seem like you’re running a different type of company e.g. “LLP” or “plc”
- Use the same name as an existing trademark
- Include any offensive language in the name you choose
- Use words that suggest you’re connected to the government or another official body (unless you have permission)
2. Set up self-assessment
Sole traders must register for self-assessment with HMRC. It’s best to sign up as soon as you start trading.
- If you don’t register right away, sign up by 5 October in your business’s second tax year. So, if you start trading between April 2020 and March 2021, register by 5 October 2021.
- Didn’t register by the deadline? Don’t panic. You can still avoid penalties by submitting and paying your tax return on time – contact HMRC immediately if you’re late.
How do you register for self-assessment? Just visit the HMRC website and complete the online form.
- HMRC will send you a Unique Taxpayer Reference (UTR) and an account activation code within 10 days. You need these before you can file a return.
- Don’t forget to apply for a National Insurance number first, if you don’t already have one.
If you’ve already completed self-assessment returns before, fill in a form CWF1. You’ll still need a UTR.
3. Organise your finances
Make sure you’ve got a bank account set up. You’ll need this to receive money, pay bills and, of course, pay taxes. It’s okay to use a personal bank account, but you might prefer to open a separate account.
Next, think about how you plan on tracking your business activities. You might find it helpful to invest in some accounting software, but you can also devise your own system. It’s all about finding an option you can use to consistently and clearly track your cash flow.
4. Paying taxes
Once you’re registered as a sole trader, there’s one thing left to do – complete and pay your tax return. Don’t worry, it’s not complicated. Here’s a breakdown of what you pay.
Income Tax
You don’t pay tax on everything you earn. Why? Because everyone has a personal allowance; that is, income that you don’t need to pay tax on. This tax-free allowance changes each year, but for 2020-2021, it’s £12,500 for most people.
- You pay Income Tax on any income over the personal allowance threshold.
- There are three Income Tax ‘bands’: basic, higher and additional. The band you are in and the amount of tax you pay will depend on how much you earn.
Here’s an example:
- You earn £20,000 in the tax year. You fall into the ‘basic’ band, which means your tax rate is 20%.
- You don’t pay tax on the first £12,500. Your taxable income is £7,500.
- At a 20% tax rate, you’ll pay £1,500 in Income Tax.
Note that the tax bands vary in Scotland.
NICs
It’s important that you make National Insurance contributions because it’s how you access certain benefits, including your state pension.
The NICs you pay will vary depending on your profits in the given year:
- Over £6,475 – Class 2 NICs
- Over £9,501 – Class 4 NICs
If you make less than £6,475, you can still make voluntary Class 2 contributions.
How do you work out your profits? Deduct your expenses from your income.
Takeaway
Registering as a sole trader is an easy way to start a small business, but it’s not right for everyone. If you’re unsure about which business structure is right for you, or you’re confused about your tax liabilities, seek advice before you register.
