Q&A: Tax for the self-employed

When you become self-employed you’ll need to know what taxes to pay and when. Tax and accounts consultant James R McBrearty explains the basics

This is the first time I’ve worked for myself...

If you were previously an employee, you probably didn’t have to think about income tax and National Insurance, let alone care. The payroll department deducted them automatically from your gross earnings and you netted the balance. Now that you work for yourself, obviously, you are responsible for sorting out your National Insurance and income tax. It’s simple enough.

What tax do I pay as a self-employed person?

Income tax and two types of National Insurance to HMRC [Her Majesty’s Revenue & Customs]. You will pay Class 2 National Insurance contributions (NICs), which are set at a small fixed amount per week, as well as Class 4 National Insurance contributions, which are based on your business profits at the year end.

When is tax payment due?

As a self-employed person, you will pay your tax on the 31 January following the end of your tax year. However, HMRC will ask for payments on account for the following year’s estimated tax – on 31 January and 31 July each year. Therefore, after your first year, your tax bill may actually be 150 per cent of the amount you were expecting, with a further 50 per cent due in July.

Sounds like I need to put some money away each month?

That’s a wise idea. It’s important to provide for these liabilities to ensure that interest charges and late payment penalties do not arise, which can significantly increase your liability. By putting away some money from your earnings each month, say, 25 per cent of your gross earnings, you should have enough money in the bank to take care of your tax bills.

Why do I need to pay my tax bills on time?

It means you will avoid needlessly having to pay penalty charges. As well as failing to complete your returns on time, you can be fined for failing to register your business when you start up (you could be fined up to 100 per cent of the tax due in addition to any unpaid tax). It’s best to register as soon as you can – it’s such an easy process. You can register online using the HMRC Online Service or by calling the HMRC ‘Helpline for the Newly Self-Employed’ on 0845 915 4515.

What do people fail to realise when they become self-employed?

The importance of selling would come high up the list. When you work for yourself, you have to be able to make sales – no matter what you do – or the business simply won’t survive, no matter how good you are at other things. You also must take care of your own bookkeeping, which can come as a bit of a shock – or pay someone else to do it. You may have to spend a significant amount of your time doing things you haven’t done before or doing things you don’t like. These can take up a lot of time.

But doing my own finances saves me money…

Well, possibly… But with certain tasks, if you work out the number of hours you spend doing them each week at the rate you could earn by doing something else, including making sales, you could find you would be better off outsourcing, providing your business can afford to do so, of course. That includes getting an accountant to look after your tax returns, even if you decide to do your own basic bookkeeping. Money you spend on an accountant’s services can be claimed as a business expense, of course. You can even save some money by taking care of basic record keeping, and then get an accountant to do your returns or company accounts.

You may also be interested in:

• Registering as a sole trader
• How I started up as a sole trader