How Much Should You Save For Tax?

Save for tax

How much should you save for tax? A question that plagues many self-employed individuals and limited company owners alike. It’s a crucial consideration on your financial journey, one that requires careful planning and preparation. Let’s delve into the intricacies of tax savings for both the self-employed and those running limited companies, ensuring you’re well-equipped to handle your tax responsibilities and protect your financial future.

How much should you save for tax if you're self-employed?

Self-employment offers independence and flexibility, but it also means you’re responsible for managing your tax affairs. Understanding how much to save for tax is essential to avoid unpleasant surprises. Let’s start by examining the self-employed tax scenario…

1. The Basics of Self-Employed Taxation

When you’re self-employed, your tax obligations differ from those of traditional employees. You’re not only liable for income tax but also National Insurance contributions. Moreover, depending on your financial situation, you may be required to make payments on account to contribute to next year’s tax bill.

2. Calculating Your Tax Savings

To determine how much you should save for tax, a general rule of thumb is to set aside around 30% of your profits. However, this figure may vary based on your income. If your earnings push you into higher tax brackets, allocating only 30% might leave you with insufficient funds when the time comes.

3. Income Tax Brackets for 2024/2025

If you have a standard Personal Allowance of £12,570, these are the income tax rates you’ll pay in each band:

➡️ Personal Allowance – Up to £12,570 at 0% tax rate
➡️ Basic rate – £12,571 to £50,270 at a 20% tax rate
➡️ Higher rate – £50,271 to £125,140 at a 40% tax rate
➡️ Additional rate – Over £125,140 at a 45% tax rate

*It’s important to note that income tax bands differ if you live in Scotland. Additionally, there is no Personal Allowance on taxable income over £125,140.

Understanding these tax rates and allowances is essential for accurate tax planning and ensuring compliance with HMRC regulations. Keep in mind that tax laws can change, so staying updated with the latest information is vital for managing your finances effectively.

4. Higher Tax Brackets and Adjustments

If your income places you in the higher tax brackets (40% or 45%), saving just 30% won’t suffice. You’ll need to increase your savings accordingly to cover the higher tax liability.

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How much should you save for tax if you have a limited company?

Now, let’s shift our focus to limited companies, where tax considerations are different but equally crucial.

1. Changing Corporation Tax Rates

From April 1, 2023, the situation for corporation tax has evolved. The standard rate of 19% for all businesses is no more a thing. As a result, the percentage of profits you should save has also shifted.

2. Savings Based on Profits

If your limited company’s profits remain below £50,000, setting aside approximately 19% remains a suitable strategy. However, if your earnings surpass this threshold, you’ll need to allocate 25% due to the new corporation tax rate. Keep in mind that for businesses with profits falling between £50,000 and £250,000, marginal relief applies, slightly reducing the overall tax burden.

Pro Tips for Effective Tax Savings

✅ Keep Your Records Up-to-DateAccurate and timely record-keeping is essential. The amount you need to save for tax can fluctuate, and having up-to-date financial data is crucial to budgeting effectively. Implementing accounting software like Xero can help with this and significantly improve efficiency in your business as well.

✅ Dedicated Tax Savings Account – Open a separate savings account exclusively for your tax savings. This keeps your funds separate and reduces the temptation to dip into these funds for non-tax-related expenses.

Understanding how much to save for tax is vital for self-employed individuals and limited company owners alike. By following these guidelines and staying informed about tax rate changes, you can navigate tax with confidence, ensuring you’re well-prepared to meet your tax obligations. Remember, seeking professional advice is always a wise choice when it comes to tax planning.

If you have any questions about paying taxes, need assistance with the process, or want expert guidance on tax-related matters, don’t hesitate to book a call with one of our Oxford-based accountants. We’re here to ensure that your bookkeeping and accounting experience is as smooth and efficient as possible, allowing you to focus on growing your business.

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