With many individuals starting a ‘side hustle’ to supplement their salary, setting up as a sole trader or limited company is the first big decision.
Whether this is selling personalised jewellery on Etsy or re-selling clothes on Vinted, any gross income over the £1,000 casual trading allowance requires a Self Assessment tax return.
While both structures are legitimate, the best choice depends on an individual’s current Income Tax banding and what they plan to do with profits.
Sole trader tax: How does it work?
When you are a sole trader, any profit from your side hustle is added on to your main employment income.
This means HMRC puts both income streams into the same pot when calculating Income Tax.
For those working full time, their personal allowance has already been eaten by their salary, which means any pound of profit earned as a sole trader is taxed at their marginal rate.
What would this look like in practice?
In practice, imagine you earned £40,000 from full-time employment and your side hustle makes £12,000 profit – this would make your total annual income £52,000.
As your side income is on top of your salary, most will be charged at your marginal tax rate.
You’d pay £2,746 in Income Tax from the side hustle, according to the 2026/27 rates.
If you have a student loan, repayments might increase if your additional earnings push you over the threshold.
Limited company tax: What do I need to know?
Where sole trader profits are treated as an addition to a salary, a limited company side hustle would pay 19 per cent tax on small profits under £50,000, according to the 2026/27 rates.
Using the £12,000 side hustle example, the Corporation Tax bill would amount to a total of £2,280.
While this might seem more immediately appealing, tax problems arise when trying to extract profits.
The most common method to transfer side hustle income into a personal bank account is via dividends, for a director of a limited company.
Where all profits are extracted immediately, the overall tax position can worsen and can sometimes be worse than operating as a sole trader.
The first £500 extracted via dividends is entirely tax-free, but anything over this is taxed.
If the side hustle owner were to withdraw all profits, total tax liabilities would be £3,271.15, which would mean paying £525.15 more in tax than a sole trader would.
Which is better for me?
Looking at both examples, you might assume that the sole trader structure is the clear winner, but this is not necessarily the case.
These two examples assume you are going to extract all the profits from your side hustle, rather than leave money in the business.
The structural advantage of a limited company is that you do not have to take all profits as dividends and you can control the timing of extraction.
When profit is retained and reinvested, the picture changes.
Dividends can be paid flexibly, for example when you’ve switched to part-time and dropped below the higher rate threshold.
As many side hustles look to scale aggressively, this can make a real difference, especially where an individual’s lifestyle is already covered by their full-time income.
For those wishing to spend the money as it is earned, the advantage largely disappears.
Speaking to an accountant
Choosing between a limited company or sole trader structure is rarely straightforward.
Our accountants will consider your whole financial picture, weighing up which structure is right for your situation and where tax liabilities can be saved.
Whether you want to use your profits as a salary supplement or scale your business to replace your current job, we can plan how and when to take money out of your company.
For people juggling full-time work and a side hustle, schedules are likely to be full, so outsourcing your admin to an accountant can help free up precious time.
Speak to our accountants for advice on how to grow your business and optimise tax structures.
