If you have recently started working as a self employed person, one of the most intimidating things you have to deal with is paying your own tax. Whilst as an employed person this is all dealt with by your employer, and comes straight out of your pay without you having to do anything, as a self-employed person it is up to you to work out your tax, take off expenses and then pay it before the deadline each year.
First, work out your employment status
Before you can work out how much tax and National Insurance you need to pay, you first need to work out what your employment status is. This is not always as simple as employed or self employed, as you could well be employed by one job, and self employed in another.
The easiest way for you to find out your status is to use the HMRC website, on which you will find a tool called the Employment Status Indicator. This will ask you a few basic questions about your employment, and then tell you what your employment status is based on this.
Register as self employed
If you do find that you are self employed, then you need to register as such so that HMRC knows that you need to file a self employment tax return. The very latest you can register as self employed is the 5 October after the end of the tax year in which you became self employed.
Tax years run from 6 April one year to 5 April the next. So, if you became self employed in May 2018, you will need to register as self employed by 5 October 2019, or face penalties.
Registering is easy, you can do so online at the HMRC website, or over the phone. Once you are registered then you will be able to start filing tax returns.
Work out your personal allowance
Everyone in the UK is entitled to a tax-free personal allowance, whether they are employed or self employed. This is the same amount for everyone and, for the 2019/20 tax year, works out to £12,500 for the standard personal allowance. So, you will not pay income tax on the first £12,500 that you earn.
If you work for more than one job and only one is self-employed, you need to take into account that your personal allowance counts for only one job, the one which HMRC sees as your main employment. This will usually be the job which pays you the most.
Income tax if you are self employed
As a self employed person you pay tax on your profits, not on your total income.
To work out your business profits you simply deduct your business expenses from your total income, and this is the amount that you need to pay tax on.
Tax bands are the same for self employed and employed people, meaning that:
- You pay no tax on the first £12,500 (your personal allowance)
- You pay 20% (basic rate) on income up to £50,000
- You pay 40% (higher rate) on income of more than £50,000
- You pay a 45% rate of tax for income over £150,000
National Insurance Contributions
Both employed and self employed people in the UK need to pay National Insurance Contributions (NICs), which go towards paying for certain state benefits.
If your profits are at least £6,365 (for the 2019/20 tax year, then you will be eligible to pay Class 2 NICs of £156 for the year (around £3 per week). If your profits are more than £8,623 then you will also pay Class 4 NICs, which is a 9% tax on profits between £8,623 and £50,000. For anything above £50,000 you will pay 2% more.
How to pay
Your Self Assessment tax return needs to be completed each year for the previous tax year. The deadlines for the 2018/19 tax year are:
- 31 October 2019 for paper forms
- 31 January 2020 for online returns
As part of the “Making Tax Digital” initiative, the government is phasing out paper returns, so it makes sense to make yourself aware of and comfortable with the digital system as early as possible.
On your tax return you will need to declare your entire income as well as any expenses. You will then be told how much tax and National Insurance you owe and must pay this by 31 January.
How can you save on tax?
Claim your expenses
Making sure that you have listed and claimed for all of the allowable expenses you can is key to bringing down your tax bill. A lot of people don’t realise all of the expenses that they are able to claim for as a self employed person, and are missing out on huge savings because of this.
Some of the things that you can claim for include:
- Office equipment
- Utility bills (such as electricity)
- Legal costs
- Business insurance
- Travel payments
For those who are self employed and paying the higher rate of tax (40%), you can get tax relief by topping up your pension, as long as you declare all of these contributions on your tax return. You will be able to claim 20% back on contributions of up to £40,000 every year, and this can also be backdated for up to three years’ worth of contributions.
Incorporate your business
For those just starting out, there is often no real benefit to setting themselves up as a limited company, as it can be too complicated and stressful when you need to be focusing on bringing in new business. However, as your business grows it may well be worth looking into incorporating your business, as it can offer the opportunity to save on tax.
Directors of limited companies are able to withdraw some of their earnings as dividends, which are subject to lower tax rates (7.5% for basic rate taxpayers). Expert advice is recommended if you are exploring this option, as the calculations can get very complicated, and any errors could cost you thousands.
If you are starting up your own business and going down the self employed route, then please accept our congratulations! We wish you and your business well and hope you achieve the success you dream of.
The last thing you want to get tied up in is paperwork and bothersome HMRC submissions, so if you want to just get on with your business and let us handle all the accounts and tax matters then please get in touch on 01473 744 700 or email us on firstname.lastname@example.org.