Sole Trader vs Limited Company
It's one of the first big decisions anyone starting or growing a business has to make, and it's rarely as simple as "limited companies save more tax." In fact, changes to dividend tax that came into effect in April 2026 mean the answer today looks different from a few years ago. Here's how to think it through.
The basic difference
As a sole trader, you and your business are legally the same thing. All your profit is taxed as personal income, through Income Tax and Class 4 National Insurance, in the year you earn it. It's simple to set up and simple to run.
As a limited company, the business is a separate legal entity. It pays Corporation Tax on its profits, and you then pay yourself, typically through a mix of salary and dividends, with personal tax due on what you extract. This separation is what used to make limited companies the more tax-efficient choice for many people.
Why the calculation has changed
Since April 2026, dividend tax rates have gone up by two percentage points at the basic and higher rates. Combined with a dividend allowance that's stayed at just £500, this has pushed up the cost of taking money out of a company as dividends.
The practical effect: for a sole director with no employees (who can't claim Employment Allowance), the profit level at which a limited company becomes more tax-efficient than being a sole trader has moved to somewhere around £26,000, much higher than it used to sit. Below that, a sole trader can now often take home more than a director extracting the same profit through a company, once you set aside the extra admin involved in running one.
That doesn't mean incorporating is a bad idea, it simply means the decision now needs a proper look at the numbers, rather than defaulting to "limited company is always better."
It's not just about tax
Tax is usually the headline reason people ask this question, but it's not the only factor:
Liability — a limited company gives you protection if things go wrong, since the business's debts are separate from your personal finances. As a sole trader, you're personally liable.
Perception — some clients and suppliers see a limited company as more credible or established.
Admin — limited companies come with more reporting: annual accounts, Corporation Tax returns, and Companies House filings. Sole traders have a lighter compliance load.
Profit retention — if you don't need to draw out all your profit, a company can let you leave money in the business and only pay tax on it when you take it out.
So which is right for you?
Without wanting to sit on the fence, it really depends! It depends on your profit level, whether you plan to reinvest or draw everything out, how much admin you're comfortable with, and how much liability protection matters to you. With the recent tax changes, it's worth running the numbers for your specific situation rather than assuming either option is automatically better.
If you're still weighing this up, whether you're just starting out or wondering if your current structure still makes sense, get in touch and I'll talk you through what makes sense for your numbers.
