Sole Trader vs Self-Employed: What’s The Difference?

Working for yourself is an exciting concept, offering you the flexibility to choose your own hours, work how it suits you and have more control over your earnings. It clearly has appeal – as of 2022, there were around 5 million self-employed people in the UK. 

While one of the most common forms of self-employment is operating as a sole trader, the two terms are viewed differently. A sole trader is a distinct term for a specific way to run your business. In contrast, self-employment is a broader phrase that describes anyone generating income who isn’t an employee. 

Though most self-employed people start as sole traders, there are other options too. As specialists in sole trader accounts, we’ve created this guide to help you understand the differences between self-employment and sole trader accounts, especially in regard to how they impact your tax obligations.

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Self-employment and sole trader defined

The main issue between the two terms is down to a fairly simple confusion between the definitions of each. 

Self-employed people might be sole traders, whereas a sole trader is always a self-employed person operating a specific business structure… not confusing at all, right? 

Okay, it’s a tricky one – so let’s clarify things further:

Defining self-employment

Self-employment is a term that describes anyone who doesn’t work as an employee to someone else and earns income outside of the PAYE system. Self-employed people are responsible for reporting and paying their own taxes through Self Assessment. 

Self-employment doesn’t describe the structure of your business – it’s just the over-arching term used to describe people who work from themselves. 

• Self-employment refers to anyone running a business that isn’t an employee
• Self-employed people must complete Self Assessment tax returns and pay their own taxes
• There are lots of different ways to structure a self-employed business, only one of which is what we call a ‘sole trader’ 

Defining sole traders

A sole trader, on the other hand, is a defined term that refers to someone who is self-employed and owns their own business with no other partners or directors. Sole traders operate as a distinct business type, different to partnerships or limited liability companies. 

• Sole traders are self-employed people operating a specific business structure
• Sole traders are the sole owners of their businesses and therefore share financial and legal responsibilities between their business and personal lives. 
• Sole traders must register for Self Assessment and pay tax through it

Key similarities and differences

Knowing that a sole trader is a type of self-employed business makes finding similarities and differences fairly straightforward. Most of the benefits enjoyed by sole traders can be enjoyed by all other types of self-employed individuals – though there are some clear differences too. 

In terms of similarities, all self-employed people get to work in a way that suits them best. Provided you can sell to customers and build income, you can set whatever hours and processes work for you. You’ll be able to choose your own clients, set your prices and control your branding. 

All that freedom also comes with responsibilities, most of which are shared by both self-employed people and sole traders. These include sending invoices, recording payments, preparing your accounts and paying taxes. 

The main difference between being a sole trader and any other Self-Employed person is that other forms of self-employment, such as a partnership, come with unique tax expectations and legal definitions. 

Most importantly, sole trader status is the most accessible because you don’t need to ‘register’ the business as an entity. Instead, you can start operating quickly by telling HMRC you’re eligible for Self Assessment. 

Responsibilities and obligations 

Sole traders and self-employed people share many of the same responsibilities and obligations. These include:

• Tracking all income and expenses via an accurate, backed-up system (see CrunchONE for an easy-to-use accountancy platform designed for sole traders). 
• Register for Self Assessment via HMRC’s website. Sole traders can do this after they start their business, but no later than October in the second tax year. We’d recommend doing it far earlier than this to avoid being hit with a large historic tax bill.
• Pay the relevant taxes as determined by Self Assessment – for sole traders and the self-employed, these are usually income tax and National Insurance. Generally, you’ll pay for both Class 2 and Class 4. See our guide to learn more. 
• Register for VAT if required (the current threshold is £85,000). 

Can self-employed people have employees?

Yes - Sole traders and the self-employed in general can have employees. While you’ll stay a ‘sole trader’ because you are the legal owner of the business, you can still have employees or freelancers/contractors working for you. 

If you have employees, you’ll need to use the PAYE system to stay on top of tax responsibilities. If you’re using contractors, they will usually be self-employed; therefore, you’ll pay them via invoices and bank transfers, keeping the appropriate records as you do. 

One of the stranger employee/self-employed situations occurs when you’re a Director in a Limited Company. While you do ‘work for yourself’ and meet the criteria of being self-employed, you are technically not self-employed in the eyes of HMRC because you’re also an employee of your business. For tax purposes, you’ll likely be paid a salary that goes through PAYE, and then any additional income made through Dividends will need to go through Self Assessment. 

Tax implications and financial management for self-employed people

Sole traders have very specific tax obligations. If you’re a sole trader, you must:

• Register for Self Assessment and use it to calculate your tax obligations
• Pay any necessary income tax and National Insurance Contributions
• Register and pay your VAT tax bill, if your earnings exceed the VAT threshold. 

Self-employed people, due to the broader definition of the term, usually share the same tax responsibilities. However, certain types of self-employed businesses may incur additional tax requirements. If you set up your own limited company, for example, you might have to also pay corporation tax in addition to taxes against your personal income. 

Whilst this all sounds confusing, there’s a really simple way to stay on top of all of your financial obligations whether you choose to operate as a sole trader or want to operate any other type of self-employment. 

Use Crunch to track your finances, and we’ll help you prepare your accounts, calculate tax bills and even complete your self-assessment. However you decide to operate your business, we’re here to help you. Take a free trial today.