7 Things You Should Know About Tax If You're Self-Employed

tax if you're self-employed

Have you recently started your own business journey? This article will help you get your head around tax if you’re self-employed.

you pay it on your profits

Your income has been pretty impressive this year and you’re worried your tax bill will be as well? Don’t panic. At least not yet. Income tax you pay as a self-employed person is calculated on your profits and not on your income. Once you calculate your total income, calculate your total expenses and deduct them from your income. This will give you your annual profit and this is what you’ll pay the tax on. It’s very important at this stage to make sure you claim for all allowable expenses for self-employed including working-from-home-expenses if they’re relevant in your situation.  

you can use your personal allowance

Most tax payers in the UK have the Personal Allowance to use. This personal allowance is an annual amount of income that is tax-free. The rates of the personal allowance can change from year to year, so always refer to the most current Personal Allowance rates on HMRC website. What does it exactly mean for your tax if you’re self-employed? Let’s say your profit is £50,000. You don’t pay tax on the first £12,570 (Personal Allowance for 2024/2025), your tax will be calculated on £37,430 (£50,000-£12,570) in accordance with the current income tax band rates.

you can use trading allowance

So, we’ve said above you pay your tax if you’re self-employed on your profits, which means deducting expenses from your income. However, instead of doing this, you can use the trading allowance. The trading allowance is a tax-free income that you can use every year. As with the Personal Allowance, the amount of the trading allowance can change, so it’s best to refer to the most up to date information on the HMRC website.

How does the trading allowance work in practice? Let’s say your income is £5,000. To calculate your profit, you can simply deduct the trading allowance, so £5,000-£1,000 (trading allowance for 2024/2025), If you’re using the trading allowance, you’re not allowed to deduct any other business costs. This method of calculating tax if you’re self-employed can only be beneficial to you if your allowable expenses are less than the trading allowance. Otherwise, just deduct your actual business costs.

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In some cases, you don't have to pay tax if you’re self-employed

This takes us back to the trading allowance mentioned in the paragraph above. If you’re trading income, we’re talking here about the gross annual income, is up to £1,000 (trading allowance for 2024/2025), you don’t have to report it to HMRC. However, if you’re already self-employed and have been submitting your self-assessment tax returns, you do have to declare it, even if your income suddenly dropped above the trading allowance. In simple words, you can’t just choose and pick when you want to file your self-assessment tax return. But if your annual income is always below the trading allowance, you don’t have to worry about registering for a self-assessment. So, if you have hobby generating you a little bit of extra cash each year, you can sleep peacefully.

you usually pay one National Insurance rate

Another addition to your tax if you’re self-employed is National Insurance. Self-employed people are required to pay one type of National insurance (two types were required before 2024/2025), but only once your profits reach a certain level. The current rates of National insurance for self-employed and the thresholds are (2024/2025)

Class 2 Class 4
can be paid voluntarily if profits are less than £6,725
paid on profits of £12,570 or more
6% for profits between £12,570 and £50,270
2% on profits exceeding £50,270

you can pay National insurance voluntarily

You’re already familiar with the national insurance contributions for self-employed (if you didn’t skip the previous paragraph). But what if your profits are lower than the Class 2 National Insurance threshold? Well, you have two choices; you don’t have to pay it or you can pay it voluntarily. If apart from being a sole trader, you also work for someone else and receive a salary, you may decide not to pay Class 2 National Insurance voluntarily. If you of course pay National Insurance contributions through your salary. However, if your self-employed business is your only job, you may consider paying it anyway. Otherwise, you may not be eligible for the full state pension in future.

you make more than one payment per year

Life can be complicated and so can the tax if you’re self-employed. So, you’ve calculated your profits and your tax and you’re ready to pay it now. And here comes a surprise. You pay your tax more than once a year. A self-employed person makes the following payments during the year:

  • By 31st January– a balancing payment for the tax year you’ve just submitted the return for and a payment on account towards your next self-assessment bill which is a half of your tax liability for the year you’ve just submitted
  • 31st July– a second payment on account which is again a half of your tax for the year just done by you

Self-assessment tax payments can be a bit confusing if you’re new to being self-employed. We wrote a separate article on this including payments on account, balancing payments and other self-assessment deadlines.

Why not get in touch with our professional Oxford accounting team today to see how they can support your business.

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