Being a sole trader means you and your business are one, especially when it comes to finances.
Unlike a limited company, where profits belong to the company itself and not the individual, all the money your business earns technically belongs to you. So you’re not exactly paying yourself as much as withdrawing money from your bank account that’s already yours.
But, you are also running a business. A portion of your earnings may need to be set aside for expenses, overheads, supplies. Plus, you’ll have your individual income tax to pay to HMRC. So in reality, while the money is in your account and under your name, you may not be able to splash some cash and spend freely. Because of this, keeping track of your cash flow is crucial to ensure you cover all costs.
Make sense? To begin with, let’s look at how “paying yourself” as a sole trader is different from earning money through a company.
- Paying yourself through a company
- Earning as a sole trader
- Keeping on top of your cash flow
- How Hnry helps
Incorporated companies
If you’re running a limited company (Ltd), the profits belong to the business, not you directly. To take money out of your business, you’d likely use one of four common methods:
1. Salary
To pay yourself a salary, you’d first need to become an employee of your own company.
This means:
- registering the company as an employer with HMRC
- registering for PAYE with HMRC
- issuing yourself payslips
- paying PAYE tax to HMRC
- paying National Insurance Contributions (both you and your company)
- making compulsory pension contributions
… all of which involves a fair bit of time and paperwork!
Your salary would be considered a business expense, so it can reduce your business’s tax liability, but this may not be so tax-efficient as your salary grows.
2. Dividends
Dividends are payments made to shareholders from a business’s after-tax profits (not income). Your business doesn’t have to pay pension contributions with dividends, but you as an individual do have to pay income tax on them as they form part of your taxable income.
Like with income tax, tax on dividends is split into three brackets with a basic, higher, and additional rate applicable. You also get an additional £500 tax-free allowance, in addition to your tax-free personal allowance:
| Band | Income bracket | Tax rate |
|---|---|---|
| Personal allowance + Dividends allowance (£12,570 + £500) | < £13,070 | 0% |
| Basic rate | £13,071 - £50,270 | 8.75% |
| Higher rate | £50,271 - £125,140 | 33.75% |
| Additional rate | £125,140+ | 39.35% |
You’ll probably have noticed that those tax rates are lower than the corresponding income tax rates. But it’s not that simple, because dividends are paid from your company’s profit – calculated after your company pays corporation tax.
You also can’t claim dividends as a business expense, in the way you could a salary – meaning that your company’s profits will appear larger, but you’ll end up owing more in corporation tax.
On top of this, if you accidentally withdraw dividends greater than your company’s profit, you’ll have actually taken out what’s called a director’s loan – which has to be repaid.
So depending on your situation, dividends might not be the most tax-efficient way to pay yourself. Things could also get very messy if you get the maths wrong! If you go down this route, it’s a good idea to get help from an accountant and/or financial advisor to make sure you stay compliant – which may be an extra expense for you to pay.
3. Mix of wages and dividends
You could choose to take a minimal salary as well as dividend payments to maximise your tax benefits. But trying to figure all this out on your own is tricky (and the fee you’d need to pay a financial expert could wipe out any tax benefits you may gain).
4. Director’s loan
A director’s loan is when you withdraw money from your company that is not:
- a salary, dividend, or expense repayment, or
- money you’ve previously paid into or loaned the company.
The thing about director’s loans is that they are loans. You’ll have to pay the loan back, eventually, including interest currently set at a rate of 3.75%.
On top of this, you may also have to pay tax on the loan, and your company may have to pay tax if you’re a shareholder as well as a director. How this all works is whether or not you owe the company, or the company owes you.
You’ll also need to keep a record of any money you borrow from (or pay into) the company – this is called a “director’s loan account”.
All in all, it’s complicated.
This is a very simplified overview of the different ways you could pay yourself through your business, and there are plenty more rules, regulations, and nuances you’ll need to be across before you can make an informed decision.
But overall, while there are some benefits to having an incorporated company if you need one, it doesn’t automatically equate to tax benefits. As a director of an incorporated business, your salary will be taxed at your personal tax rate. Additionally, the company itself needs to pay taxes on its profits, with the corporate tax rate set at 19%+, depending on your profit level.
Plus, you’ve got the extra paperwork, requirements, and costs that come with setting up and running a company. So any tax you may save may be eaten up elsewhere.
As you can see, earning through an incorporated company is way more complicated than being a sole trader and just doing your own taxes (or letting Hnry do them for you!).
Sole traders
How to “pay yourself” as a sole trader
Life as a sole trader is more straightforward (whoo!). You “pay yourself” by accessing the funds in your account however you please. No complicated payroll setups here.
But these withdrawals are not tax-deductible wages. All income that you make in your business is yours to spend, but also yours to pay tax on.
Can you pay yourself a wage as a sole trader?
There’s technically no such thing as “sole trader wages”. All the money you earn through your business is also your personal income.
How to pay tax as a sole trader
To pay your sole trader taxes, you’ll need to file a personal tax return at the end of the tax year, reporting all your income from all income sources – including your sole trader business.
Depending on your situation, you can also opt into a Budget Payment Plan, which allows you to prepay tax on your sole trader income throughout the year. By doing so, you can dodge a hefty tax bill when you complete your Self Assessment at the end of the financial year.
Alternatively, you could just use Hnry – we do it all for you.
Keep on top of your cash flow
Because it’s so easy to access your money as a sole trader, it’s a good idea to stay on top of your cashflow to make sure you meet your tax obligations as well as other important payments. Just because your bank balance looks healthy doesn’t mean it’s a good idea to splurge on that gold-plated coffee machine or a year’s supply of gourmet donuts!
Here’s a few ideas around how to keep things in check:
Understand exactly what’s yours to spend
Remember to only spend your business’s profits, not net income. Basically, don’t spend what you need to use to keep making your products, servicing your clients, or paying your bills!
(We know that seems a little obvious, but you’d be surprised how many people do this by accident!)
Separate business and personal finances
You can open a separate business bank account and keep detailed records of all your income and expenses. This helps you keep track of how much you’re making and what you need to set aside for business expenses and tax.
Track all your expenses
Keep good records of all your business expenses, including cost of goods sold, overheads, rent, employees, insurance, advertising and marketing costs and so on – and claim them as tax deductions.
Don’t forget these important payments:
- Income tax: Your first £12,570 is tax-free (yay!). After that, your effective tax rate will depend on your income bracket.
- VAT (if applicable): If you make £90,000 or more in business income, you’re required to register for and charge VAT (as of 2025 this remains at 20%). If you pay more VAT on goods and services you buy for your business than the VAT you’ve collected, you may get a VAT refund.
- National Insurance Contributions: A mandatory fee all workers (with some exceptions) pay to the government to help fund the NHS.
- Student loan repayments (if applicable): If you earn above your plan’s repayment threshold, you’re required to pay a set percentage of every dollar you earn above the threshold towards your student loan debt.
- Private pension contributions: While you’re not required to pay into your pension as a sole trader, it’s a smart move to think about your future (hello beach house retirement!) and potential tax benefits.
By the way, Hnry can help with taxes
We’re probably biased, but we really believe that the best way to sort your taxes is by using Hnry.
Hnry pays your taxes throughout the year, so you’ll never have to think about tax again.
If the amount you earn fluctuates from month to month, Hnry automatically adjusts your income tax rate as you go to ensure that you pay the exact right amount of all your taxes – whenever you get paid.
That means:
- No more under or over-paying your Income Tax.
- No more worrying about things like VAT, or your National Insurance Contributions – Hnry takes care of all your taxes for you, and even completes your Self Assessment on your behalf.
- No need to pay for a separate accountant and multiple software tools to handle your financial admin – Hnry is an all-in-one service.
Our team of accountants and tax experts, and our award-winning software, have got your back.
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