Tax Differences Between Sole Traders and Limited Companies in the UK for 2025

In 2025, tax obligations for sole traders and limited companies in the UK vary significantly. Here’s a straightforward breakdown to help you understand the differences:

 

Sole Traders:

1. Income Tax: Sole traders pay income tax on their business profits that exceed the personal allowance (£12,570 in 2025). Income tax rates are tiered at 20%, 40%, or 45%, depending on how much profit you make.
2. National Insurance Contributions: They must also pay National Insurance Contributions (NICs), specifically Class 4, based on their profits; this is being reviewed in 2025.
3. Simpler Reporting: The reporting process is relatively straightforward. Sole traders commonly use Self Assessment, with cash basis accounting set as the default method.
4. Expense Claims: You can claim most business-related expenses to reduce your taxable profit, but your options for tax planning and relief are more limited compared to companies.
5. Personal Liability: One crucial aspect is that there is no distinction between personal and business assets. Which means you are personally liable for any tax debts or liabilities.

 

Limited Companies:

1. Corporation Tax: Limited companies pay corporation tax on taxable profits: 19% for earnings up to £50,000, and 25% for profits above £250,000, with a gradual increase between these thresholds.
2. No Personal Allowance: Unlike sole traders, there’s no personal allowance for companies; tax begins from the very first pound of profit.
3. Income Structure: Directors, who are often the business owners, typically draw a salary that is taxed through PAYE. They may also receive dividends, which are taxed separately at different rates (8.75%, 33.75%, or 39.35%) after corporation tax has been settled. Note that the tax-free allowance for dividends has been reduced.
4. National Insurance: Limited companies do not pay Class 4 NICs, but there are employer and employee NICs to consider on salaries for directors and staff.
5. Reporting Requirements: These companies have more extensive reporting obligations, including the preparation of annual accounts and filings with Companies House.
6. Limited Liability: One significant advantage of operating as a limited company is limited liability protection, which safeguards personal assets from company debts or tax obligations.

 

How Do These Differences Impact Tax Payments?

For lower profit levels (typically under £30,000–£50,000), sole traders may often enjoy a lower tax burden due to the personal allowance and fewer administrative costs. However, once profits exceed £50,000, a limited company may be more tax-efficient, especially with smart planning around salaries, dividends, and pension contributions.

 

Key Points to Remember for 2025:

• Corporation Tax: Companies owe corporation tax from the first pound of profit, while sole traders benefit from the personal allowance.
• Reporting Thresholds: The raised reporting thresholds for companies might simplify compliance for more small businesses, but the overall compliance demands remain higher.
• Director Rules and NICs: New rules regarding director disclosures and increased Employer NICs in 2025 should be taken into account in tax planning for companies.

In summary, while sole traders enjoy simpler tax and reporting processes, they are liable to pay income tax and NICs on their profits. In contrast, limited companies pay corporation tax but have the advantage of more strategic tax planning through a combination of salaries and dividends, despite facing higher administrative requirements.

Whether you are just starting or considering a change in business structure, choosing between sole trader and limited company status can have a significant impact on your tax bill and long-term plans.

If you’d like personalised advice or support with setting up, tax planning, or meeting your reporting obligations, get in touch today. We’d be happy to help you make the most tax-efficient decision for your business in 2025 and beyond.