As an employee you probably didn’t waste much time thinking about tax and National Insurance. Most likely your employer directly deducted these from your gross monthly salary, leaving you the remainder.
Running your own business – no matter how small – is different. When you register as self employed through HM Revenue & Customs (HMRC) you’re no longer regarded as a PAYE employee unless you’re still actively in full-time employment while freelancing.
If you’re setting up your own business, you’ll be classed as a sole trader. From this point on you’ll be expected to handle your own tax affairs and pay back the tax you owe each year. This means filling out a tax return for each tax year and returning it to HMRC along with the full amount you owe.
On top of this you’ll be expected to manage VAT payments (if you’re VAT registered) and National Insurance. If you’ve yet to register as self employed and need to, check out our guide here.
When self-employed you are responsible for paying the correct amount of tax on the profits your business makes along with mandatory National Insurance Contributions (NICs).
This is done through a process called self-assessment which involves submitting details of your income and outgoings to HM Revenue & Customs (HMRC) for the tax year just ended.
Registering to pay self-employment tax
You must register with HMRC within three months of becoming self-employed or you’ll face a penalty of £100. Call the HMRC ‘Newly Self-Employed Helpline’ on 0300 200 3500 or register online at HMRC. You’ll need to provide HMRC with your name; date of birth; address; telephone number; National Insurance number; name and type of business and start date.
Your self-employed tax return can be filed on paper or online. The latter has lots of advantages:
- A later submission deadline.
- Immediate acknowledgment of your form’s submission so there’s no worry about it getting lost in the post and facing penalty charges.
- Tax and NICs are automatically calculated, allowing you to see and adjust payments.
- You can save or print a copy for your records.
- You can check your account at any time to see what tax you owe and previous tax payments.
If you file a paper return, HMRC will calculate the tax you owe and send you a bill.
HMRC may issue you with a short four-page self-assessment form if your tax situation is straightforward or your annual turnover is less than £73,000. You can’t request a short return form however, nor is it available to fill in online – HMRC alone decides who receives this.
You’ll register for self-assessment at the same time as self-employment tax, and your online account will be created. Look out for an activation code sent to you in the post, which has to be entered when you first log in to your online account (also known as a Government Gateway account). You’ll also get a Unique Tax Reference (UTR) number, which you’ll need when completing your tax returns and for all correspondence with HMRC.
Even if you already submit a self-assessment form – for example to pay tax on rental income or to claim back tax on charitable donations – you still need to inform HMRC that you are now self-employed. You can download and complete the CWF1 from HMRC’s website and post it to the address on the form.
How much tax will I have to pay if I become self-employed?
That all depends on the amount your business turns over each year. Using your income amount you can calculate how much tax you will need to pay for each tax year. This will also give you an idea on whether you’ll need to pay Class 2 or Class 4 National Insurance.
HMRC will notify you of your self-employed tax bracket when you register as a sole trader – this is the amount you can earn before being taxed. For instance, if you earn £11,500 to £45,000 you’ll be taxed 40% of your income (according to the 2017/2018 tax year).
How can you calculate how much tax to pay when self-employed? The most reliable way of budgeting for your annual tax bill is to use HMRC’s online tax calculator.
Filling out your self-employed tax return or tax forms
As mentioned, you’ll be required to fill out your own tax return when you’re self-employed. This notifies HMRC of how much tax you owe. You’ll then be expected to pay back the amount owed for the tax year.
Receiving a self-employed tax rebate
If you think you’ve paid too much tax, you could claim a tax rebate in the form of a cheque. Whether you believe you’ve paid too much or too little tax the best thing to do is contact HMRC via telephone to notify them of a mistake as soon as possible.
You may have to wait until later on in the tax year to receive your rebate and HMRC will notify you of any discrepancies via post.
When is your tax due when self-employed? Key dates for your diary
The most important things to remember when paying tax as a self-employed person are the dates and deadlines when your self-assessment and tax payments are due. You can check the dates on the HMRC website.
In terms of registering for self-assessment you’ll have until October 5th. However, this can be done in the second tax year in which you are self-employed.
Paper tax returns are usually due by midnight on October 31st, as are online tax returns. You’ll have until midnight on January 31st to pay any tax you owe to HMRC.
What happens if I don’t pay the tax I owe to HMRC?
You could be subject to a fine or penalty if you fail to pay the correct amount of tax on time. For this reason it’s worth making a note of these dates in your calendar.
VAT – or Value Added Tax – is a tax that’s levied across most goods and services. By law you must register for VAT when your annual turnover exceeds the VAT threshold of £85,000 (from April 1, 2017) – though you can choose to register at any time. Once registered, your business must charge VAT on its products and services and make quarterly VAT payments to HMRC. You can however claim back any VAT you’ve paid on business purchases. Read our free guide on how to register for VAT.
To help you understand a little more about how VAT works, we’ve answered some frequently asked questions around the subject.
When does a sole trader pay VAT?
The standard VAT rate is currently 20% (numbers correct according to 2017 tax year). This rate may however rise or decrease depending on the Government’s annual budget.
Will I have to pay VAT on every transaction?
Understanding VAT and knowing how much you need to pay is very important when preparing your business VAT records and determining what you should and shouldn’t include.
There are some goods and services that you won’t need to pay VAT on, so it’s worth making sure you know if the goods or services your business offers are exempt.
Here are just a few of the goods and services that are exempt from VAT:
- Finance and credit
- Education and training
If your business is supplying exempt goods and services, it’s still important to record the sale even though it is not required in any VAT records. Similarly, you can’t charge VAT on the exempt items you are selling or providing.
If your business only provides a VAT exempt good or services, you won’t have to register for VAT through HMRC.
If you’re unsure about whether or not you need to pay VAT, speak to one of our business advisers or HMRC. You can find the full list of details around VAT exempt goods and services on the Government’s official website.
In addition to income tax you may need to pay two types of National Insurance which contribute towards your entitlement to a basic state pension and other benefits.
Being self-employed, you’ll need to pay Class 2 National Insurance contributions (NICs) – a small fixed amount per week. You may also need to pay Class 4 NICs if your annual profits exceed £8,164 (Correct as of June, 2017). This will be calculated automatically when you fill in your annual self-assessment form.
Tax payments on account
After your first full year of business you may be asked for payments on account for the current year’s estimated tax. This is designed to help businesses spread tax payments and will be in addition to the tax due for the past year.
Payments on account are normally paid in two installments: 31st January and 31st July each year. HMRC will ask for amounts based on your business’s income for the previous tax year.
Typically, you’ll be asked to pay half of the tax and Class 4 NICs that you’ve paid for the previous 12 months in January and then the same amount again in July. In effect, your first tax bill, when self-employed, for January 31st may actually be 150% of the amount you were expecting, with a further 50% due in July.
When you file your tax return for that tax year you’ll have to pay any additional tax if your business profits exceed those of the previous year. If not, you’ll receive a tax rebate.
It’s a good idea to stash away some money from your earnings each month so you’ve enough money in the bank to take care of your tax bill.
Use HMRC’s self-employment ready reckoner tool to discover your likely tax and National Insurance contributions.
What tax allowable expenses can I claim?
If you’re self-employed you can claim business expenses to reduce your income tax bill. HMRC has strict rules about what counts as a legitimate business expense however. For example, you can claim for the running costs of a vehicle used solely for business as well as the running costs of your home office or dedicated business premises. Some expenses you can’t claim for, such as travel between your home and your workplace or the cost of building an extension for a home office.
You can claim capital allowances for equipment you buy for work purposes. More information on self-employed expenses can be found on the Gov.uk website.
What records should I keep for my tax return?
Keeping good business records will help you fill in your tax return. Keep details of: your personal and business income; sales invoices; receipts for payments made; business expenses; VAT records if you’re registered for VAT; and PAYE records if you employ staff.
If using traditional accounting methods, keep a record of money that you’re owed but haven’t received yet and money you owe but haven’t yet paid.
Paperwork must be kept for at least five years after the 31st January submission deadline of the relevant tax year as HMRC may ask to see it to check you’re paying the correct amount of tax.
Do I need an accountant?
Filling in a self-assessment form is fairly straightforward but if you have a complicated tax situation or feel your time is better spent growing your business then consider hiring an accountant. Expect to pay at least £150 for an accountant to help fill in your tax return, however their knowledge of what can be claimed as expenses could save you far more. Money spent on accountant’s services can be claimed as a business expense too.
If you decide to do it yourself, HMRC’s website has lots of help and guidance. If you’re stuck on a particular section give HMRC a call on 0300 200 3310 but be aware you may have to wait to speak to an advisor especially during busy times close to the tax return deadlines.
Alternatively, you can find a list of accredited accountants via the Consultative Committee of Accountancy Bodies (CCAB).