Most people who try self-employment “fail quickly” and very few go on to employ others or create significant ventures, according to the Institute for Fiscal Studies.
One in five businesses set up by sole traders closes within a year and six in ten fail by their fifth year, according to an analysis of tax records.
There has been a significant trend towards self-employment in Britain in recent years and the institute’s research underlines how hard it can be to make a success of working for yourself.
Median sole trader profits are 7 per cent below pre-recession levels after adjusting for inflation, the institute said. The proportion of sole traders with profits greater than £40,000 halved between 2007 and 2015.
Sole traders’ average incomes have fallen so much that, despite there being 25 per cent more sole traders since 2007, their combined turnover is lower than before the recession.
Most sole traders are not employing anyone else and less than a quarter make any use of deductions for capital investment.
Helen Miller, deputy director of the Institute for Fiscal Studies, said that in light of the research the government may need to reconsider its policy of encouraging start-ups. “Low and falling incomes among the self-employed and low levels of investment among small business more broadly should lead us to question why we are incentivising people to quit employment and start their own business,” she said.
The institute distinguished between three ways of working for yourself: being a self-employed sole trader, a self-employed partner or an owner-manager of a limited company. It found that sole traders were disproportionately based in construction, that partnerships were disproportionately in agriculture and that owner-managers were disproportionately working in business services.
Between 2000 and 2015, the number of self-employed sole traders rose by 1.4 million — representing growth of about 50 per cent — to reach 4.1 million. Since 2007, a third of the growth has come from overseas-born sole traders.
The number of owner-managers of companies has doubled to 1.8 million since 2000. Over this period, the number of employees, still by far the most common form of paid work, rose by only 10 per cent.
The research also found that inequality in taxable incomes was significantly higher among the self-employed than among employees. More than a third of sole traders had less than £10,000 of total taxable income, according to the most recent data, compared with only about one in six employees.
Six in ten sole traders made less than £10,000 of profit. In contrast, 7 per cent of partners are in the top 1 per cent of income taxpayers. That rises to 37 per cent for partners in financial services.
Ms Miller said that the huge disparity in incomes of the self-employed meant that tax policy may need to change.
“Preferential tax rates for business owners is a ‘one-size-fits-all’ approach that fails to provide the support that some need, while giving unjustifiable tax breaks and incentives to others,” she said.
Jonathan Cribb, senior research economist at the institute, said: “There is huge churn in the self-employed population.”
However, sole traders who managed to remain in business during the economic downturn were largely responsible for a significant fall in profit among the group. Average annual profits for those who stayed in business fell by 16 per cent, or £2,500, between 2007 and 2011.