Tax & Self Employed: Dummies Guide to Self-Employed Tax
Author: Russell SmithDecember 18, 2019
Nearly 5 million self-employed individuals are working across the UK. That’s around 17% of the entire British working population. It’s a huge number, and one set to keep rising. According to SmalBusiness.co.uk, over 2.5 million Brits dream of starting their own small business. Why? There are many reasons people choose to go self-employed. These include:
- Striking a better work/life balance
- Following their dreams and passions
- Achieving flexibility and better working hours
- Not having to listen to a boss or manager
- They want to build a legacy
Whatever reason you have for wanting to go self-employed, the rewards can be huge. Self-employed workers — on average — earn more than their peers while working fewer hours.
But, it’s not all good news.
One of the oft-reported negative aspects of working for yourself is having to deal with self-employed tax. Fear not, however. In this blog, we’ll cover everything you need to know about self-employed tax.
What is Self-Employed Tax?
When you work as an employee for a business, your employer will manage your tax on your behalf and take any money owed to the tax office out of your paycheck automatically — known as PAYE. If you are self-employed, however, you are your own employer, which means you become liable to pay tax on your earnings.
How Does Self-Employed Tax Work?
Self-employed tax runs through a process known as self-assessment tax returns. Once a year, you will be required to record all your earnings on a tax return form and submit this form to the government. The government will then give you your tax bill, based on your income, which you must pay if you don’t want to incur legal penalties and fines.
Unlike tax, which is normally taken from your earnings as you work, you will not be charged tax at the point of income. This means if you are paid £200 for a job, you’ll receive £200. If an employer contracted you, you’d be taxed automatically, and receive a lower figure.
Instead of paying tax upfront, you are charged after the fact. This means you need to be aware of your tax obligations and save an appropriate amount from every piece of revenue you earn to pay your tax bill once you’ve filed your return.
As an example, let’s say you make an estimate of your yearly earnings and work out that you will owe a total of 20% of your annual income in tax revenue. To pay for this, you’d need to save £40 from your £200 payment. RS Accountancy recommends you create a tax savings bank account used exclusively to fund your tax obligations. This account allows you to monitor how much you are saving and ensures this money remains untouched. It’s important to think of this saving account as untouchable, as the money legally belongs to the government and not you.
How to Register for Self Employed Tax
Registration for being self-employed is the same thing as registering for self-employed tax. When you register as self-employed, you register with HMRC — Her Majesty’s Revenue & Customs. This is the only authority you need to notify when you become self-employed.
HMRC manage all aspects of business and personal taxation — including self-employed individuals. When you register with them, you are added to their database of self-employed workers in the UK. You are then automatically assigned a UTR (Unique Tax Reference) Number and can pay self-employed tax.
How Do You Pay Self Employed Tax as a Sole Trader?
You can pay your self-employed tax through the self-assessment portal on the official gov.uk website operated by HMRC. All you have to do is enter your login information assigned to you when you initially registered for self-employed tax — this will include your UTR.
You are then taken to your unique self-assessment page, which displays the tax return forms you need to submit. HMRC will assign these to your custom portal based on the information given when signing up for self-employment.
Simply start filling out the form for the previous tax year, or continue with the one you have started but not yet completed. You can also access previously submitted tax returns and update your current form should you realise an error or your circumstances change.
What Are the Self-Employed Tax Deadlines?
Your self-employed tax is always due for the previous year, not the current year. The end of the tax year is in April, and also begins in April. This means that as of writing in December 2019, if your self-employed tax return isn’t submitted yet, you need to file your self-assessment forms for the tax year starting April 2018 and ending April 2019. If you have already filed your returns for the previous tax year, you cannot file your returns for the current year until it ends in April.
The deadline for filing your self-employed tax return, and paying the tax due, is the 31st of January following the end of the previous tax year. For the example of the 2018 to 2019 tax year, your self-employed tax return submission deadline would be January of the following year — January 31st 2020.
Are There Any Other Self-Employed Tax Deadlines?
Yes, there are.
If you were self-employed during the previous tax year, and this being your first year of business, you hadn’t got around to telling HM Revenue, you need to tell HMRC you were self-employed during the time before October 5th. This is to allow them time to register you for self-employed tax and assess your tax liability.
You can also submit your returns on paper instead of online if you choose to do so. To submit self-employed tax via paper, you’ll need to print the appropriate forms from the HMRC website and record them carefully. If you submit self-employed tax using paper, then the deadline is the 31st of October. We don’t recommend using paper documents, as online is not only faster but also easier to access and change if necessary. Paper self-employed tax returns are being phased out soon, which means now is the time to get used to digital self-employed tax submission.
What Self-Employed Tax Do You Have to Pay?
Self-employed tax varies slightly to traditional tax. You may have to pay up to four types of tax. These are:
- Income tax
- National Insurance Class 2
- National Insurance Class 4
How Much Self Employed Tax Should You Pay? Self-Employed Tax Rates
How much you earn dictates which type of self-employed tax you pay — and the amount. You can read a full breakdown of our 2019/2020 tax rates to find out more, or keep reading for a summary.
Like a traditional employee, you have a personal allowance of non-taxable income — £12,500 in 2019. After that, you go up into the basic rate, higher rate and additional rates as anyone else would.
Where self-employed tax starts to differ from contract employees is National Insurance tax (NI). As a self-employed worker, you will pay two types of NI instead of the normal one. This is because unlike normal employment, where you pay some National Insurance and your employer pays another portion, you must cover it all. Self-employed workers pay Class 2 National Insurance contributions — £3 a week after you earn over the threshold, currently £6,365 — and Class 4 National Insurance — on profits over £8,632. You can opt to pay Class 2 before the £6,365 bracket if you like. It is not required but can be recommended for low-income individuals as contributions protect access to the state pension.
You may also have to pay VAT. VAT must be paid by any self-employed worker who earns over a certain amount. At the moment, that is £85,000. To pay VAT, you will have to register a separate VAT form. Again, you’ll use your government logins to sign up for VAT. VAT returns are separate from self-assessment self-employed tax and are managed on their own.
Do I Have to Register for Self-Employed Tax if I Don’t Need to Pay Tax?
At the moment, you will only start to pay self-employed tax once you hit the Class 2 National Insurance threshold. So, if you don’t earn above the threshold, do you need to register for self-employed tax?
The short answer is yes.
Even if you don’t pay a penny in tax, you must still register with HMRC and let them know you are self-employed. You’ll also need to file your tax return to the amount of £0 owed. This is so HMRC can keep track of your earnings and investigate any suspicious activity.
The caveat to this is that you do not need to register until you earn over £1000 in self-employed revenue.
How to Save on Self Employed Tax
The best way to save on self-employed tax is to take advantage of tax-deductible expenses. Self-employed tax-deductible expenses are items purchased for business use deemed ordinary, necessary or reasonable. The concept behind tax deductions is that if you have to make a purchase to conduct business, you should not pay income tax on that purchase because, without it, your business couldn’t function properly.
Self-employed tax deductions work to save you money by raising the amount of non-taxable income you can earn. If you were to purchase £140 of allowable expenses, your personal allowance would then be increased from £12,500 to £12,640 to accommodate your business expenses. Your tax brackets also adapt to match this, meaning you don’t rapidly approach a higher rate of tax payment by using tax deductions. For example, the basic, 20% rate of income tax starts at £12,501 and runs to £50,000. If you were to increase your personal allowance by £140 using tax deductions, your basic rate cap would rise to £50,140 to protect your taxable profit from entering the higher 40% rate too early.
The result of recording business expenses is you pay less tax.
Examples of tax-deductible expenses considered reasonable include a computer for somebody who needs to conduct work using a digital device, or a ladder for a window cleaner. You can also make partial claims on tax deductibles if the expense is used in part to manage your business. If you work out of your home office, using your heating, electrical supply and WiFi, you can claim a portion of the expenses to cover the costs of working. These expenses are often calculated based on the square footage of the room where you work as compared to the rest of the house. From this, you can work out a percentage of your bills to claim as tax-deductible expenses.
It’s important to be aware you cannot just claim anything you want as a tax-deductible expense. You cannot, for example, claim a long list of drinks at a bar after taking a client out to dinner, by claiming it as a reasonable business expense because you could have easily met and had your business discussions in a coffee shop or at your office.
How to Manage Your Self Employed Tax
Self-employed tax management can seem daunting. If you aren’t a financial expert, the idea of having to monitor your money, meet deadlines, and save the right amount might be a bit overwhelming. Simple, self-employed tax management, however, is quite easy if you know what you are doing. At RS Accountancy, we’ve been helping to support self-employed tax obligations for over a decade, and here are the top tips we’ve got to help you maintain control of your finances:
- Record Absolutely Everything — You must record every single financial detail — every penny earned and spent. We recommend you do this using accountancy software, but you can also use simple excel spreadsheets or even classic bookkeeping ledgers if you like their old-fashioned appeal. What’s more important than anything is it’s all written down somewhere, in a place that is easy to find and easy to reference.
- Keep Data Accurate — Don’t put off recording your expenses and managing your books. Make time for financial record keeping at least once a week. Accurate and current data makes it much easier to track your self-employed tax and notice if you may need to start saving more or less. By recording regularly, you ensure you don’t forget to note anything down.
- Keep Evidence — It’s important to keep evidence of your income and expenses. If HMRC audits you, they’ll want to see proof you’ve earned what you say you’ve earned and that your tax deduction claims are genuine. This evidence doesn’t have to be hard copy receipts — it can be an email, digital photo of a receipt on your phone, or an online invoice — although you can keep physical receipts if you want. Anything you can use to back up your claims.
- Consult an Expert — Self-employed tax is very important, and making mistakes can be disastrous for both you and your business. If you are ever in doubt of your situation and can’t find an answer that makes sense to you, don’t just try and figure it out by yourself. There are many financial experts and online accountants that you can reach out to for support.
If you are looking for self-employed tax support, from filing returns to crunching the numbers, our finance experts are here to help. Get in touch with our online accountants now for a free business consultation. Ask questions, get unbiased answers and find out what we can do for your company.
Russell Smith is an award-winning accountant and founder of RS Accountancy. With over a decade of experience running his company, he has worked with countless small businesses just like yours, helping them grow profits and manage their finances. Russell is also a prolific financial writer, having contributed to such publications as The Guardian, The Telegraph and The Daily Mail.