Starting out as a Sole Trader

If you’re just starting out in business, becoming a sole trader offers the most straightforward route to self-employment. Find out what it means, why you need to register and how to get started in the best possible way. 

What is a sole trader? 

When you first decide to pursue self-employment, you must decide how to structure your business. A sole trader is a defined legal structure in the eyes of the UK government. It means that you’re a self-employed person running your own business as an individual. 

As a sole trader, you have total control over your business and its future. However, you are personally responsible for the financial and legal elements of the business – including reporting and paying income tax and national insurance contributions. 

Sole traders can keep any profits after tax, but are also held personally liable in the event of losses or debts (this differs from limited companies, where the company itself ‘owns’ the debt.) 

Being a sole trader doesn’t prevent you from hiring employees – the name only refers to how the business is owned and operated. 

Before we go into how to get started and share some tips to maximise your chances of success, here’s a quick recap: 

• A sole trader is a self-employed person who is the sole owner of a business.
• Sole traders are personally responsible for profits and losses, liabilities and debts.
• You must register as a sole trader with HMRC and then submit an annual self-assessment tax return, determining your income tax liability and any Class 2 or Class 4 National Insurance Contributions. 
• Sole traders are free to hire employees or change the structure of the business at a later stage.

Sole trader pros and cons: Is it right for you?

Becoming a sole trader is straightforward – but it might not be the best option for some people, depending on the nature of your business and plans for the future. Here’s a quick table of pros and cons to help you decide.

How to set up as a sole trader

Getting set up as a sole trader is really easy – so don’t put it off. Though some people delay it since you can technically earn up to £1000 in a tax year before you register, we’d encourage you to get this step done first. 

HMRC sets the following responsibilities for sole traders: 

• Keep accurate business records. CrunchONE can help you log, track and report financial information throughout your sole trader journey.
• Complete and send a Self Assessment tax return every year. 
• Pay the appropriate income tax and any Class 2 and Class 4 National Insurance Contributions 

Becoming a sole trader is straightforward – you just need to register for Self Assessment with HMRC. Here’s how you can complete the whole process from start to finish:

1. Create or log in to your Government Gateway account.
2. Once logged in, find the section called ‘Business tax account’ and then click ‘add a tax to your account to get online access to a tax, duty or scheme’ 
3. Choose Self Assessment as an option
4. The platform will ask if you have a Unique Taxpayer Reference or UTR. Select ‘No’ if you’re registering for the first time. 
5. You’ll then need to select ‘Individual or Sole Trader’ under ‘What best describes you’ and ‘Yes’ when asked if you’re self-employed. 
6. The system will present a new page that asks you to select which specific taxes you want to register for. Click ‘Self Assessment’ and then ‘Sole Trader’ in the next prompt box. 
7. You’ll be asked for the date you first started working for yourself – so put that into the box and click next. 
8. Now, you’ll need your National Insurance Number and contact details to hand, as the next few fields will ask you to submit personal information and business details. We won’t go into every field as the information is fairly standard.
9. You’ll be automatically enrolled into online Self Assessment services unless you tick the box to opt-out. 
10. The final step is a declaration to confirm you have the capacity and right to register. 

Once you’ve submitted all of this information and completed the declaration, you’ll see an acknowledgement page summarising the information. Screenshot this page for your records. 

After registering, you’ll receive a unique tax reference, or UTR. This is sent via post within 15 days, or 21 if you’re abroad. You can also find it faster by logging in to your HMRC account. 

Naming your business as a sole trader

Once you’ve set up as a sole trader with HMRC, you’re ready to start trading – but there’s another step you should take first. Naming your business is important, not just to differentiate you from your competitors but also to create a unique identity across all of your potential business materials, such as invoices, letters, social media pages, etc. 

Choosing a name as a sole trader is straightforward, too – you can just create it and start using it for your business. You don’t need to register it anywhere, but if it’s different to your real name, you’ll need to include both on any official paperwork, such as invoices and letters. 

When you pick a name, be mindful of the following rules:

• Don’t choose a name that could be deemed offensive
• Make sure you don’t use the same business name as someone else. If they have a registered trademark in place, they can take legal action against you. 
• Don’t use any terms related to registered businesses, such as ‘limited’, ‘llp’, ‘ltd’, ‘plc’ etc. If in doubt, consult this guide. 

Do you need a business bank account?

Before selling to customers, consider setting up a separate business bank account. It’s not a legal requirement when you’re a sole trader, but it’s highly recommended that you set one up to differentiate it from your personal account. 

As a sole trader, all of your business profit is taxable to you personally, and legally, there is no difference between you and your business. To reduce your taxable income, you can claim for allowable business expenses – but only if you can prove what those expenses are and provide accurate records. Having a business account makes it easier to track business-specific costs, which means it’s easier to claim accurate expenses and, therefore, save on tax. 

Invoicing and getting paid

The crucial part of being self-employed - getting paid! You’ll need to invoice your clients for your work or the goods you’ve provided. Invoicing is pretty simple - it’s basically telling your client how much to pay you, how to pay you, when to pay by, and what work you have done. 

There are certain legal requirements on invoices, such as a unique identifier or invoice number and your business name and address. We explain everything you need to know in our article “How to invoice your clients”.

One of the biggest challenges you’ll face working for yourself is balancing your income and outgoings - what’s known in the business world as cash flow. Clients, especially more high-profile ones, are renowned for not paying up on time. 

As we mentioned above, the first step is to ensure you send out a proper invoice. The key to getting paid on time is proactively handling your outstanding invoices. By staying on top of your invoices, you’ll ensure your payments arrive on time, and you’ll also more easily spot early warning signs that indicate a problem. 

Our accounting software allows you to personalise your invoices easily, set up your clients, and send an invoice from anywhere. You can automate reminders and easily see what your client owes and what you’ve paid out. No more searching for receipts and records when you need to file your accounts or Self Assessment.

What taxes do you pay as a sole trader?

When you're self-employed, your clients usually pay you directly. Unlike employed people who are taxed at source through the Pay As You Earn (PAYE) system, you’ll usually be paid what you charge without any tax being automatically deducted. In order to pay the right tax, you’ll need to file your Self Assessment tax return each year. 

Sole traders usually have to pay the following taxes:

• Income tax: Income tax is worked out against your profits after all expenses are deducted. There are various allowances and thresholds involved in determining the actual rate you’ll pay, so you’ll need to track all business sales to calculate your tax liability. 

As a guideline, we suggest that sole traders set aside at least 25% of total earnings if your business profits reach up to £50,000 per annum, or 45% if profits exceed £100,000. 

• National insurance contributions: Sole traders usually have to pay two different types of NI payment known as Class 2 and Class 4. 

• Class 2 is paid as a weekly flat rate for each eligible week in a tax year (currently £3.45 for the 2023/24 year)
• Class 4 is payable as a percentage of your total profits. See this guide to self-employed national insurance to learn more. 

• VAT: If your business earns over the VAT threshold, currently set at £85,000, you need to register for VAT and begin charging for it when you make sales. See our full guide to VAT for the self-employed to see how it works. 

When you begin paying tax as a sole trader, you will need to keep records of your personal and business income and outgoings as you go (more on expenses later), and HMRC will calculate the tax and National Insurance you need to pay based on your profits. You’ll usually make two payments each year on the 31st January and 31st July.

Sole traders pay a few different types of tax that we’ve covered above – though how much you have to pay depends on your total earnings and expenses. Self Assessment, as a process, helps calculate your tax liability but it pays to use accountancy software to keep track of your potential tax liability in advance, allowing you to save and plan for it. See our tax rates and thresholds page for all the latest figures. 

Is VAT something sole traders need to consider?

Yes. Though you might feel like earning £85,000 per year is a long way off when you’re just getting started, the reality is that VAT is based on total earnings as opposed to profit, so it’s easier than you may think to hit the threshold – busy seasonal periods or spikes in sales can put you over the limit.

However, even if you don’t exceed it, some businesses may want to register for VAT anyway. Doing so means you can charge VAT on your own sales and recoup it from others. If you work primarily with VAT-registered clients, you can’t claim back any VAT until you register yourself. 

Fortunately, whether you want to register manually or you’re going to exceed the threshold, registering is easy. Using the same Government Gateway account you used for registering as a sole trader, you can complete a few short steps on the ‘Get another tax, duty or scheme’ page to register. 

Once registered, you’ll need to charge VAT on all relevant sales. The current standard rate is 20%, so you’ll need to work out your original price and then add 20% to it. It can feel scary to do this since it means inflating your prices, but other VAT-registered businesses can simply reclaim the VAT they pay so it won’t affect their decision. Read our full guide to VAT for the self-employed to learn more. 

Claiming expenses 

As a sole trader, you claim expenses when you file your annual Self Assessment. 

Sole traders can claim back any expenses they have incurred that relate directly to their business in much the same way as limited companies. This even includes a percentage of the space used if you work from home. 

Here are a few examples of what you can claim: 

• Office costs - e.g. stationery or phone bills 
• Travel costs - e.g. fuel, parking, train or bus fares 
• Clothing expenses - e.g. uniforms 
• Staff costs - e.g. salaries or subcontractor costs 
• Things you buy to sell on - e.g. stock or raw materials
• Financial costs - e.g. insurance or bank charges
• Costs of your business premises - e.g. heating, lighting, business rates 
• Advertising or marketing - e.g. website costs 

Remember that you’re legally bound to keep business records (including receipts) for six years after the tax year they relate to. 

We have a handy article with more information about business expenses when you’re self-employed.

Our CrunchOne software is the perfect way to record all your expenses when you’re a sole trader. We even have a useful app called Snap that lets you take a photo of your receipts and automatically upload the details to your software.

What insurance does a sole trader need?

Business insurance comes in many shapes and sizes - you can’t just buy business insurance and be done with it. You’ll need to pick and choose what policies are a good fit for you and your business. 

Here are the options you’ll need to consider if you work for yourself.

Professional indemnity insurance 

This covers you if a client suffers a financial loss as a result of your professional advice or service. For example, it could protect you against a compensation claim from a client for negligence or mistakes, covering the potentially expensive legal costs. 

It’s not required by law, but it is recommended for more risky professions, as it will cover any mistakes you might make. 

Public liability insurance 

Although not required by law, this kind of insurance is essential if members of the public will be interacting with your business in some way - from customers receiving deliveries to clients visiting your office or work premises. 

If you work from home and meet clients at your home office, then you should also consider getting this insurance. A policy will cover you if someone is injured in some way by your business, or if you damage third-party property when carrying out work. 

You can check out our business insurance partner Qdos for your cover and get a 15% discount on your insurance if you’re subscribed to a Crunch plan.

Organising your accounts 

Keeping track of income and expenses is a necessary part of working for yourself. As your business grows, you’ll be able to get some help - but there are a few rules you need to follow when you’re just starting out. 

1. Be transparent 

HMRC can investigate anyone. Depending on your actions, you could face anything from penalties and fines to jail time. Transparency isn’t just best practice for your taxes; it’s best for your business too. It forces you to keep track of all the money that’s coming in and going out. You can then use this information in helpful ways, like planning business strategies or reducing the tax you must pay. 

2. Keep records updated 

Set an alarm on your phone for a certain time each week to remind you to do your books. Remember, as soon as you let your accounts get out of hand, a backlog will begin to form that could deteriorate into a massive and potentially expensive headache. 

3. Learn more about finance for the self-employed 

Bookkeeping isn’t just about tracking your cash flow. There are various ways to analyse your income and expenses to find ways to cut back on costs and make more money. If you’re not sure what you’re doing, there’s a lot of online support. You can forecast your financial situation using software provided by our partners, Brixx. Discover Brixx to begin planning your financial future and visibly see areas you can save in your business.

Is being a sole trader right for you? 

Whether going down the sole trader route is right for you depends entirely on your individual circumstances. At Crunch, we’re experts in looking after both sole traders and limited companies. If you want to find out what’s right for you, arrange your free consultation with one of our advisors today.

Explore more of our online resources for sole traders and crunch some numbers with our easy-to-use online tax calculators.