Switching from sole trader to limited company — the tax side

Step 1 — Transfer the business in with incorporation relief

Moving your sole-trade goodwill and assets into the new company is technically a disposal at market value — which can trigger a Capital Gains Tax charge on goodwill that has been built up over the years. Incorporation relief defers that gain into the base cost of the shares you receive in exchange, so no CGT is payable at the point of incorporation (GOV.UK — Incorporation relief).

The relief applies automatically if three conditions are met: the whole business (other than cash) is transferred as a going concern; the transfer is to a UK company; and the consideration is wholly or partly in shares. The catch sits in the third condition — if you take part of the consideration as cash or a director's-loan-account credit rather than shares, only a proportional part of the gain is deferred and the rest crystallises.

The action: model the consideration structure deliberately before the incorporation date, not after the company is formed. This is the single decision that most often turns into an unexpected tax bill.

Step 2 — Your tax world changes

On the incorporation date, your relationship with HMRC changes fundamentally. You stop being taxed on all profit personally. Instead the company pays Corporation Tax (19% up to £50,000 of profit, marginal relief between £50,000 and £250,000, 25% above) on its profit, and you are taxed on what you extract — a small salary via PAYE plus dividends from post-tax profit (GOV.UK — Corporation Tax rates).

The new filing stack is real:

• Annual statutory accounts at Companies House.
• A CT600 Corporation Tax return at HMRC, with corporation tax paid nine months and a day after year-end.
• PAYE for your director's salary — monthly RTI submissions.
• Dividend paperwork — board minutes and vouchers for each dividend.
• Your own Self Assessment as a director-shareholder, reporting salary and dividend income.

The mix of salary versus dividends is its own optimisation problem — covered in the Salary vs Dividends pillar.

Step 3 — Time it well (year-end, not mid-year)

Incorporating from a clean date simplifies everything that follows. The cleanest choice is your existing accounting year-end — commonly 5 April for sole traders after basis-period reform, or whatever date your sole-trade accounts already run to. Your final sole-trade Self Assessment then covers the period up to that date, and the company's first accounting period starts the day after.

Mid-year incorporation is possible but creates two part-year sets of figures: a partial sole-trade Self Assessment and a partial first company year. That doubles the workload for the year and increases the risk of mis-allocating VAT, PAYE, or expenses across the change date. There are occasionally good commercial reasons to incorporate mid-year (a contract that requires a Ltd from a fixed date, for example), but if you have a choice, choose the year-end.

Step 4 — VAT, contracts, banks, registrations

A sole-trader VAT registration belongs to the individual, not the trade — so it does not automatically follow the business into the new company. You have two routes (GOV.UK — VAT registration):

• Register the new company for VAT in its own right — the company gets a new VRN and starts fresh.
• Apply to transfer the existing VRN — via a VAT 68 transfer-of-going-concern application, the company takes over the original number.

The £90,000 VAT-registration threshold applies to both structures, so whichever route you take, taxable supplies count toward it on the same basis.

At the same time:

• Contracts — customer agreements, supplier contracts and any service agreements need to be re-papered into the company name.
• Bank account — a sole-trade bank account cannot be re-titled to a limited company; you open a new business bank account in the company name. Anything left behind effectively becomes a credit on your director's loan account — money the company owes you, drawable tax-free later.
• Sector licences and registrations — ICO data-protection registration, FCA permissions, professional bodies, trade licences — need re-registering against the company.

Step 5 — It's not always one-way

Incorporation is a deliberate decision, not a casual one — partly because reversing it has its own cost. If circumstances change and you want to wind the company back down, there are two routes:

• Informal strike-off — available when the company has less than £25,000 of distributable reserves remaining. The remaining amount can be extracted as a capital distribution at relatively low cost.
• Members' Voluntary Liquidation (MVL) — a formal solvent winding-up run by a licensed insolvency practitioner, used when reserves exceed roughly £25,000. The distribution is capital, not income, and can qualify for Business Asset Disposal Relief (BADR) if the holding-period and trading-company conditions are met (GOV.UK — Business Asset Disposal Relief).

The BADR rate has been rising in successive Budgets, and the lifetime cap is £1m of qualifying gains. It still represents a meaningful saving against the main CGT rate, which is why structure choices made at incorporation can be worth thousands at the eventual exit.

Incorporation relief — only with the right conditions

It's not always one-way — planning the exit

The flip side of incorporating is worth thinking about at the same time, not years later. The two wind-down routes — informal strike-off under £25,000 of reserves, and Members' Voluntary Liquidation above — have very different costs and tax outcomes. An MVL is the more expensive route up-front (licensed practitioner fees) but the only route that meaningfully accesses Business Asset Disposal Relief on the remaining reserves.

The same logic applies if your eventual plan is to sell the business rather than wind it up. Selling a limited company can be more tax-efficient than selling a sole trade — you sell shares, the buyer takes the entity, and qualifying gains can benefit from BADR. Selling a sole trade is selling its assets, with the gain attributed to whichever asset it sits on. If exit is on the horizon, structure matters years ahead (GOV.UK — Business Asset Disposal Relief).

Related reading

• Sole trader vs limited company — the pillar — the 2026/27 decision framework.
• Taking dividends legally — the dividend paperwork stack you take on after incorporating.
• Director's loan account explained — the credit balance route for value left behind on incorporation.
• Verity formation — the formation mechanics (Companies House, ID verification, the £50 incorporation).