Corporation Tax vs Income Tax: Bedford Accountants Explain the Key Differences

At Towerstone we provide accountancy services in Bedford for local sole traders landlords and limited companies. We have written an article about Corporation Tax vs Income Tax: Bedford Accountants Explain the Key Differences to help you understand the difference between the two taxes and know what that means for cashflow and planning.

One of the most common conversations I have with new and growing business owners in Bedford is about tax and more specifically which tax they should be paying. People often ask me whether they should be paying Corporation Tax or Income Tax and why the numbers look so different depending on how a business is structured.

From experience this confusion is completely understandable. Both taxes exist side by side in the UK system and both can apply to the same person in different circumstances. What catches people out is that choosing the wrong structure or misunderstanding how the taxes interact can cost thousands of pounds over time.

In this article I want to clearly explain the difference between Corporation Tax and Income Tax in plain English. I will walk through what each tax is who it applies to how it works in practice and why the choice between them matters so much. I will also share real world examples based on situations I regularly see with Bedford based businesses and offer practical advice to help you make better decisions from day one.

This is written from first hand experience advising sole traders, company directors, landlords and growing SMEs who want clarity not jargon.

What Corporation Tax is in simple terms

Corporation Tax is a tax paid by limited companies on their profits. If you run a business through a limited company this tax applies to the company itself not to you personally.

Profit for Corporation Tax purposes is broadly the income the company earns minus allowable business expenses. Once that profit is calculated the company pays Corporation Tax to HMRC.

The key point I always stress is this. Corporation Tax belongs to the company. It is not your personal tax even if you own the company outright.

That separation between you and the company is one of the biggest differences between Corporation Tax and Income Tax and it underpins almost every planning decision that follows.

What Income Tax really covers

Income Tax is a personal tax. It applies to individuals rather than companies and it is charged on income you personally receive.

This includes income from self employment, employment, rental income, pensions, dividends and interest among other sources.

If you are a sole trader your business profits are treated as your personal income. There is no separation between you and the business for tax purposes. That is why sole traders pay Income Tax on their profits rather than Corporation Tax.

From experience many people underestimate how wide Income Tax is. It is not just about wages. It applies to almost everything you personally receive unless a specific exemption applies.

Who pays Corporation Tax and who pays Income Tax

Corporation Tax is paid by limited companies and some organisations such as clubs and associations.

Income Tax is paid by individuals. This includes sole traders, partners in partnerships, employees, landlords and company directors on their personal income.

Where confusion often arises is with company directors. Directors can end up dealing with both taxes at the same time. The company pays Corporation Tax on its profits and the director pays Income Tax on what they personally take out of the company.

From experience this dual layer of tax is where planning either works well or goes badly wrong.

How Corporation Tax works in practice

A limited company prepares annual accounts showing its profit for the year. Adjustments are then made for tax purposes and Corporation Tax is calculated on the final taxable profit.

The company files a Corporation Tax return and pays the tax directly to HMRC.

One key thing I always explain to clients is timing. Corporation Tax is usually paid nine months and one day after the end of the accounting period. That means the tax bill often arrives long after the profit was earned.

This catches many new directors out. They spend the cash and forget the tax is coming later.

From experience good companies treat Corporation Tax like a monthly cost even though it is paid annually.

How Income Tax works in practice

Income Tax works very differently depending on how the income is earned.

Sole traders pay Income Tax through the Self Assessment system. Profits are added to other personal income and taxed at the appropriate rates.

Employees pay Income Tax through PAYE where tax is deducted before they receive their wages.

Company directors often pay Income Tax on salary through PAYE and on dividends through Self Assessment.

From experience Income Tax feels more immediate because it is often deducted at source or paid twice yearly through payments on account.

The different tax rates explained

This is where the numbers really start to diverge.

Corporation Tax is currently charged at different rates depending on company profits. Smaller profits may be taxed at a lower rate while larger profits move towards the main rate.

Income Tax rates increase much more sharply. Once personal income exceeds certain thresholds the marginal rate can rise quickly.

From experience this is why many growing businesses consider incorporation. Corporation Tax rates can look attractive compared to higher rate Income Tax especially once profits increase.

However, the headline rate never tells the full story.

The real difference is how money gets to you

The most important distinction between Corporation Tax and Income Tax is what happens when you want to use the money personally.

With Income Tax the profit is already yours. Once tax is paid the remaining money belongs to you outright.

With Corporation Tax the profit belongs to the company. Paying Corporation Tax does not put money in your pocket. It simply clears the companys tax bill.

To use that money personally you must extract it and that usually triggers further tax.

From experience this is the point many people miss. Corporation Tax is not a replacement for Income Tax. It sits alongside it.

Salary and dividends explained from experience

Company directors usually extract money through a combination of salary and dividends.

Salary is treated like employment income. The company gets a deduction for Corporation Tax and the individual pays Income Tax and National Insurance.

Dividends are paid from profits after Corporation Tax. The individual then pays dividend tax personally.

From experience this structure allows flexibility and planning but it requires careful management. Taking too much salary can trigger high National Insurance costs. Taking dividends without enough profit can cause legal issues.

This balancing act is one of the main reasons directors benefit from ongoing advice rather than one off setup help.

National Insurance changes the picture

National Insurance is another major difference between Corporation Tax and Income Tax routes.

Sole traders pay Class 2 and Class 4 National Insurance on profits.

Employees and directors pay employee National Insurance and employers National Insurance on salary.

Corporation Tax itself does not include National Insurance but the extraction of profits often does.

From experience National Insurance often tips the balance when comparing structures. It is easy to ignore in simple comparisons but it has a real cash impact.

Cash flow and psychological differences

There is also a behavioural difference I see repeatedly.

Sole traders often feel the tax immediately and plan around it naturally.

Company directors sometimes feel detached from Corporation Tax because it belongs to the company. This can lead to under provision and nasty surprises.

From experience the businesses that struggle most with Corporation Tax are not unprofitable. They simply did not plan for it.

Legal responsibilities and compliance

Corporation Tax comes with additional compliance obligations. Companies must prepare statutory accounts file Corporation Tax returns and meet Companies House requirements.

Income Tax for sole traders is simpler but still requires accurate records and Self Assessment compliance.

From experience limited companies offer protection and planning opportunities but demand discipline.

Cost differences beyond tax

It is also important to consider professional costs.

Limited companies generally cost more to run in terms of accountancy fees and administration.

Sole traders have lower overheads but fewer planning options.

From experience the right choice depends on profit level growth plans risk profile and personal circumstances not just tax rates.

Alternatives and hybrid situations

Some people operate multiple income streams. They may be a sole trader and a company director at the same time.

Others move between structures as businesses evolve.

There is no one size fits all answer. From experience the best outcomes come from reviewing the structure as the business changes rather than sticking rigidly to the original setup.

Common mistakes I see repeatedly

From experience the most common errors include incorporating purely for tax reasons without understanding extraction tax ignoring National Insurance underestimating compliance costs and failing to plan for future growth.

Another frequent issue is mixing personal and company finances which blurs the tax position and creates compliance risks.

Practical advice from experience

In my opinion the decision between Corporation Tax and Income Tax should never be made in isolation.

You need to look at how much profit the business will make how much you need personally whether profits will be reinvested and your appetite for administration.

From experience early planning saves far more than late fixes.

The key takeaway

Corporation Tax and Income Tax are not rivals. They are different tools designed for different situations.

From experience the right structure gives clarity confidence and flexibility. The wrong structure creates stress confusion and unnecessary tax.

If there is one thing I have learned advising Bedford businesses over the years it is that tax decisions should support the business not drive it blindly.

Understanding the difference between Corporation Tax and Income Tax is not about chasing the lowest rate. It is about building a structure that works today and still works as the business grows tomorrow.

To continue reading you may find Avoid These Costly VAT Errors: Bedford Accountants Expose Common Pitfalls and How to Choose the Right Accountant for Your Business in Bedford helpful. You can also browse all related guidance in our Bedford Accounting Hub.