The rule of thumb that incorporating saves tax has been overtaken. The dividend allowance is now £500, dividend tax rates rose by two percentage points in April 2026, and employer National Insurance starts at £5,000. Where the tipping point once sat near £25,000 of profit, UK accountants now put it closer to £50,000. For a franchisee, the agreement may settle the question first.
Two structures cover almost every new UK business. A sole trader is the person; a limited company is a separate legal entity that the person owns and directs. Everything else follows from that distinction: who owes the tax, who owes the debts, what is on public record and how much administration the year carries. The figures below are for the 2026/27 tax year and apply across the UK, with the note on Scottish income tax bands where it matters.
What is the difference between a sole trader and a limited company?
A sole trader and their business are the same legal person, so the trader keeps the profit, pays income tax and National Insurance on all of it and is personally liable for every debt, while a limited company is a separate legal entity that owns its own assets, owes its own debts, pays corporation tax on its profits and files accounts at Companies House for anyone to read. That is the whole distinction, and each consequence below is a version of it.
| Question | Sole trader | Limited company |
|---|---|---|
| Who is liable for debts | The individual, without limit | The company, subject to guarantees given |
| What tax is paid on profit | Income tax and Class 4 National Insurance | Corporation tax, then personal tax on what is drawn |
| How money is taken out | Drawings. The profit is already the trader’s | Salary, dividends, or both |
| What is published | Nothing | Accounts, directors and people with significant control |
| Registration | Self Assessment with HMRC | Companies House, £100 online, plus HMRC |
| Annual filing | Self Assessment return | Accounts, confirmation statement, corporation tax return |
How the tax works
A sole trader pays income tax on profit above the personal allowance of £12,570, at 20%, 40% and 45% as the bands rise, plus Class 4 National Insurance at 6% on profit between £12,570 and £50,270 and 2% above that. Class 2 National Insurance was abolished from 6 April 2024. Scotland sets its own income tax bands, so a Scottish taxpayer’s figures differ while the National Insurance position does not.
A company pays corporation tax at 19% on profits up to £50,000 and 25% on profits above £250,000, with marginal relief tapering between the two. The detail that surprises people is that the effective rate on each extra pound inside that band is about 26.5%, higher than the main rate itself. Those thresholds are shared between associated companies, so running two companies halves each band.
Money then has to come out. Salary is taxed through PAYE and attracts employer National Insurance at 15% above a secondary threshold of £5,000, which the Employment Allowance may offset for eligible businesses. Dividends are paid from profit after corporation tax, with a dividend allowance of £500 and rates that rose by two percentage points from 6 April 2026.
That second layer is why the old arithmetic no longer holds. When the dividend allowance was £5,000 and dividend rates were lower, the company route won early. With the allowance at £500 and rates up, the saving below about £50,000 of profit is thin, and thinner still once a company’s accountancy and filing costs are counted.
What Making Tax Digital changes
The other half of the comparison is administration, and it moved in April 2026. Making Tax Digital for Income Tax began on 6 April 2026 for sole traders and landlords with qualifying income above £50,000, who now keep digital records and send quarterly updates to HMRC rather than filing once a year. The threshold falls to £30,000 from April 2027.
Good to know
“Sole trader means less paperwork” is the oldest line in this comparison and it now needs qualifying. Above £50,000 of qualifying income a sole trader files quarterly under Making Tax Digital, while a limited company still files its accounts and corporation tax return once a year. The administrative gap between the two structures has narrowed at exactly the profit level where the tax comparison also gets close, which is why the decision is harder in 2026 than it was in 2023.
The questions that actually decide it
Tax is one input. These are the others that change the answer:
- Will all the profit be drawn? Profit left inside a company is taxed at 19% to 25% rather than at income tax rates, which is the largest long-term difference for anyone who does not need every pound
- What does the work risk? A business handling other people’s property, vehicles, children or animals carries claims that a sole trader meets personally
- Who are the customers? Some commercial and public sector buyers contract only with companies
- Is the business intended to be sold? Shares in a company transfer; a sole trader sells assets and goodwill. In a franchised business, whether either can happen at all is a matter for the agreement, as how to choose your franchisor covers
- Is privacy a concern? A company’s accounts, directors and controlling owners are public; a sole trader publishes nothing
- Is there more than one owner? Shares divide ownership cleanly in a way a sole trade cannot
What the franchise agreement decides for you
Anyone buying into a network may find the question already answered. Franchise agreements commonly require the franchisee to trade through a limited company, so that the territory, the brand licence and the obligations sit with an identifiable entity rather than an individual.
Where that is the case, the structure is a condition of the agreement rather than a tax choice, and the modelling exercise above becomes a question of how to draw money rather than which form to use.
Editor’s tip
Incorporating for limited liability and then signing it away is the most common misunderstanding in franchising. Where a franchisor requires a company, it frequently also requires the directors to give personal guarantees over the franchise agreement and the lease, and a bank lending to a new company will usually want the same. A guarantee puts the individual back on the hook for the sums it covers, whatever the company’s separate legal personality says. The question to ask before signing is not whether the structure limits liability, but which liabilities the guarantees hand back.
Registering either one
A sole trader registers for Self Assessment with HMRC, and the deadline is 5 October following the end of the tax year in which trading began. A company is incorporated at Companies House, at £100 online on the fee schedule in force from 1 February 2026, and then registered separately for corporation tax, a small line against the start-up totals in what it costs to open a franchise in the UK. A company also files a confirmation statement each year, which is a separate obligation from the accounts and is missed more often than it should be.
Changing structure later
The decision is not permanent, but it is not free either. Incorporating an existing sole trade means forming the company, transferring the assets and registering for corporation tax, and where the business has built goodwill the transfer can trigger a capital gains charge, with reliefs available that need planning rather than assumption.
Going the other way means ceasing to trade through the company, dealing with whatever remains inside it and closing it down. Both directions need timing around the VAT registration threshold of £90,000 and around any retained profit.
The bottom line
The two structures are closer than the standard advice suggests. Below roughly £50,000 of profit, the tax difference is small and can reverse once a company’s filing and accountancy costs are counted; above it, and particularly where profit is retained rather than drawn, the company case strengthens. Making Tax Digital has narrowed the administrative gap at the same level.
And for a franchisee, the agreement may require a company regardless, in which case the useful question is what the personal guarantees cover rather than which structure to choose, a point worth settling before comparing brands across the UK franchise directory.The figures change every April, so the modelling is done on current rates.
Frequently asked questions about sole trader and limited company status
There is no statutory threshold, and the level has moved. With the dividend allowance at £500 and dividend rates up two percentage points from April 2026, UK accountants commonly place the tipping point around £50,000 to £60,000 of annual profit for 2026/27, against roughly £25,000 in earlier years. Below that the tax saving is often cancelled out by a company’s additional accountancy and filing costs. The answer also depends on whether profit is drawn or retained, since retained profit is taxed at corporation tax rates rather than income tax rates.
A company is a separate legal entity and its debts are its own, but that separation is routinely qualified by personal guarantees. Landlords, lenders and franchisors frequently require directors of a new company to guarantee the lease, the borrowing or the franchise agreement, and a guarantee makes the individual liable for the amounts it covers. The protection is real for trade debts and claims that no one has guaranteed, and absent for those that have been.
Those above the threshold do. Making Tax Digital for Income Tax started on 6 April 2026 for sole traders and landlords with qualifying income above £50,000, requiring digital records and quarterly updates to HMRC. The threshold drops to £30,000 from April 2027. Below the threshold, the annual Self Assessment return continues as before. Limited companies are outside this regime and file annually.
