One of the first things that you should consider when setting up your business or side hustle is how to account for the money that you earn. This guide will talk you through your obligations when earning money, the various options available to you and more importantly the cost.
This topic may seem tedious, but putting in a little bit of time now, can save you hours of stress and large fines later down the line. The last thing you want is HMRC investigating you for unpaid tax, whether it’s intentional or not.
I’d also like to state that I am not an accountant and have no formal qualifications, I’d always recommend speaking with an accountant to discuss your needs before proceeding.
Takeaways
- You can earn £1000 as sole trader before needing to declare it to HMRC
- Setting up a LTD company will cost between £12- £250
- Limited Company annual accounts will cost around £1,250 annually
- Keeping records is of the utmost importance and costs between £0-£35 Per month
- A Business bank account is highly recommended and can cost from £0
When Do You Need to Declare Your Earnings?
In the UK in 2022, you are entitled to a trading allowance of £1000 turnover per year as a sole trader before you need to declare it to HMRC. This can change at any time so it’s worth checking HMRC income tax rates.
Simply put, if you just started selling something today, then you don’t need to let HMRC know about it until you make your first £1000 or £83.34 per month.
How Many People Will Own Your Business?
The first question to ask yourself is how many people want ownership of your business/side hustle? The answer will help to determine what the best route is for you. If it’s just you, then sole trader or limited company are both potential options.
On the other hand, if you want to split ownership between investors, colleagues, friends, partner or husband or wife, then the sole trader option is off the table. Instead you will need to choose between a partnership and a limited company.
Are you Seeking investment?
Most businesses require some capital to get started. Company registration, stock, web hosting, tools, rent, machinery and professional services all cost money and no matter how thrifty you are, the likelihood is that you’ll have outgoings before you generate income.
Raising investment to help kickstart your business idea could be a sensible option. If you get investment from friends, family or even angel investors you may (or even need) to offer them some equity (a share of your company) in return.
When you operate as a sole trader, you can’t do this. A LTD company allows you to issue shares in exchange for some much needed cash in the business.
You may also want to offer shares to people that can offer skills and services that you can’t provide on your own. People with contacts or experience in your niche, may be willing to give you some of their time in exchange for some equity in your business. This can be a cost effective way of getting some much needed expertise and guidance without spending too much money.
Will You Have Employees?
As your business grows, you will likely want to take on staff. You will need to register via the PAYE scheme. You can do this as a sole trader and a LTD company.
However if you operate as a LTD company, it is the company that employs the staff and not you and this will limit your liability in instances where you may be unable to pay salaries. As your business grows and takes on more staff, a LTD company makes more sense.
Do You Want to Sell Your Business?
What starts as a side hustle can turn into a small business very quickly and a small business can turn into a thriving business just as fast. At some point in the future you may want to cash in or even retire.
When you operate as a sole trader, you are the business and this makes it harder to sell. Technically you can sell the assets, but this process can often be complex and messy and you’ll likely be landed with a hefty capital gains tax bill.
Because a LTD company is its own entity you can sell all your shares and even gain some tax advantages such as entrepreneurs relief. Selling your business when it’s a limited company is a much cleaner, easier process.
Can You Swap From Sole Trader to a LTD Company?
Yes you can. You can take a look at our full guide on how to swap from being a sole trader to a Limited company
In the early days it might make sense to operate as a sole trader. There are a lot more administrative tasks associated with setting up a LTD company and you may be keen to just register as a sole trader and get cracking.
However as your business grows and gains more customers, suppliers, staff and a general footprint in your chosen niche, the process of switching becomes ever more arduous.
You will need to inform all customers and suppliers of your change of status and update a lot of records. you’ll need to move all staff payroll and you will need to transfer all assets into your newly formed LTD company. Just filling out the forms can represent hours, if not weeks of administrative work.
Sole Trader or Limited Company?
One of the main questions most people ask when setting up a small business is should you trade as a sole trader or limited company. There are pros and cons of both as outlined in the table below.
| Sole Trader | Limited Company | |
| Limited Liability | No | Yes |
| Setup Cost | £0 | £12- £250 |
| Approximate Annual Accountancy fees | £0 – £1250 | £1,250 |
| Can You Register For VAT? | Yes | Yes |
| VAT Earning Threshold | £85,000 | £85,000 |
| Pay Dividends? | No | Yes |
| Tax Efficient Options? | No | Yes |
| Should You Consider This Option if You Earn over £10,000 Annually? | Maybe | Yes |
| Pay National Insurance? | Yes | Maybe Not |
| Easy to Sell Your Business? | No | Yes |
As you can see from the table above, there are some serious benefits derived from registering as a LTD company and these become even more advantageous as your turnover and profit increase.
If you are expecting to earn over £8000 per year, you should be seriously considering looking into the possibility of forming a LTD company.
Limited Liability V Unlimited Liability
One of the major benefits of operating as a LTD company revolves around liability. As a sole trader you have unlimited personal liability. This means that if you have debts as part of your trading, these can be secured against your personal assets like your house or car.
Setting yourself up as a LTD company from the get go will provide you with limited liability. Essentially this means that the company that you set up is its own entity and liability rests with the company and not you personally.
This is one of the greatest benefits of the LTD company structure. If your organisation runs up debts that it is unable to pay, your personal assets (like your house, car, shares and savings) cannot be repossessed to cover those debts.
It’s important to note that just because your company has limited liability, this doesn’t absolve you from your responsibility to be a fit and proper owner. As a director of your company you can be prosecuted for any criminal or negligent activity that you undertake.
When Can’t You Set Up a LTD Company?
Technically anyone can set up a LTD company, but not anyone can be a director. If you’re setting up a LTD company then let’s assume that you want to be a director. In which case you must be
- Aged 16 or over
- Are not currently a disqualified director.
- Have not been declared bankrupt. Note that you can become a director once you have been discharged from bankruptcy
- You are the auditor of the company
Do You Need A Separate Bank Account as a Sole Trader?
The short answer is no. It is perfectly acceptable to run your income from your side hustle or small business through your existing personal bank account.
Having said that, it’s not recommended. Keeping track of your business income and expenditure when it’s mixed in with any other personal finances will be an administrative nightmare.
Setting up a separate bank account for your business interests is super quick and easy these days and it’s relatively inexpensive. You can even get free business bank accounts that are applicable to sole traders .
No – But it will be easier and sole trader bank accounts can be free to set up and use
Do You Need a Separate Bank Account as a LTD Company?
Because a LTD company is its own entity it is strongly recommended that it has its own bank account. As mentioned previously, business bank accounts are incredibly simple to set up and you can open one for free with £0 monthly fees.
Take a look at the best business bank accounts for LTD companies.
To open a business bank account for your LTD company you will need a the following
- A registered LTD company
- Proof of the registered company address
- Proof of address, such as a recent utility bill or council tax statement
- Your Certificate of Incorporation
- Tax and VAT registration details
- At least one director as a signatory
Do You Need to Use Accounting Software?
When you are first starting out it is perfectly possible to get away with using a spreadsheet as both a limited company and as a sole trader. If you are on an extremely tight budget, then try these free accounting spreadsheets to get you up and running.
That said, you’ll probably find very quickly that using excel to keep on top of your finances is time consuming and liable to errors.
Using accounting software will save you time and is far more efficient. It will also likely save you a small fortune in accountancy fees when you need to publish your annual accounts, owing to the fact that it will make your accountants’ lives much easier.
Xero is the leading accounting software, probably due to its ease of use, but you can also check out Quickbooks too.
If you are going to use an accountant, it would be worth checking which software packages they support. Any accountancy worth its salt should support both Xero and quickbooks.
Xero Costs from £12 – £33 per month
Quickbooks costs from £12 – £32 Per month
