Tax for self-employed people

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 likely be classed as a sole trader but, if you've chosen to do so, you could also set up a partnership.

From this point on you’ll be expected to handle your own tax affairs and pay 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.

Self-employment tax

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 by the 5^th of October if you need to complete a self-assessment tax return and have not done so before of becoming self-employed or you’ll face a penalty of £100.

You can register online at HMRC or call the HMRC ‘Newly Self-Employed Helpline’ on 0300 200 3500.

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 £90,000.

There's no need to specifically request a short form, the online form will shorten automatically after asking which sections you need to complete.

You need to register for self-assessment when you set up as a sole trader.

If you register for self-assessment as a self-employed person, and you do so online.

By then logging into the Government Gateway website, you’ll be able to access your 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 of profit your business produces 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 personal tax allowance when you register as a sole trader – this is the amount you can earn before being taxed.

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.

Learn more about how your tax bill is calculated with HMRC's playlist on YouTube.

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 the amount owed for the tax year.

Discover more on how to complete your self-employed tax return with HMRC's helpful YouTube playlist.

Receiving a self-employed tax rebate

If you think you’ve paid too much tax, you could claim receive a refund of overpaid tax.

It is quickest for customers to be paid a rebate into their UK bank account and this is HMRC’s default payment method.

If you don't have a bank account, you can nominate someone else to receive the money or request a cheque, however this is likely to take longer.

Whether you believe you’ve paid too much or too little tax the best thing to do is contact HMRC.

Customers with an online account can claim a refund through that or you can notify HMRC via telephone if a mistake has been made.

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 5th of October.

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 the 31st of October, and online tax returns must be submitted by 31st January.

You’ll have until midnight on the 31st of January following the end of the tax year 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.

Learn more about Self Assessment penalties with this playlist from HMRC. 

VAT

VAT – or Value Added Tax – is a tax that’s levied across most goods and services.

By law you must register for VAT if:

• your total VAT taxable turnover for the last 12 months was over £90,000 (the VAT threshold) or
• you expect your turnover to go over £90,000 in the next 30 days.

Once registered, your business must charge VAT on sales and reclaiming VAT from their “effective date of registration”.

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.

How much VAT does a sole trader pay?

The standard VAT rate is currently 20%.

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:

• Insurance
• 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.

National Insurance

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) and Class 4 NICs if your annual profits exceed £12,570.

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 instalments: 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.

HMRC have resources available to help you budget for your tax bill, including a budget payment plan.

Use HMRC’s self-employment ready reckoner tool to discover your likely tax and National Insurance contributions.

Other considerations

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 and HMRC has produced guidance for sole traders on Annual investment allowances.

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.

Many self-employed people don't realise that it's necessary to keep records from the beginning of your self-employment.

It's also important to remember that there is a difference between the records a self-employed person needs to keep for themselves and what records they need to keep for their business as these relate to difference taxes.

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, you can Ask HMRC Online 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).