What should I know about income tax if I am self-employed?

It’s no fun, but income tax is an inescapable responsibility if you’re self-employed. Without a company sorting this all out for you, you need to be clued up on what you need to pay for your individual income tax. This article will help inform you of what and how much you need to pay, what tax deductions you can get, and how to actually file your income tax as a self-employed taxpayer.

What should you do when you become self-employed?

There are three main actions you must take when you start working for yourself:

• Inform HMRC: It’s absolutely critical that you inform HMRC that you’ve become self-employed or started working as a freelancer. You need to register yourself as a sole trader, and you can do that here.
• Open a business account: In theory, you can use your personal current account for filing your business finances, but this is not recommended. To prevent complicating the separation of your personal and professional finances, consider opening a business bank account. This will enable you to clearly see the financial details of your business at a glance. All major banks offer business accounts, but some also offer accounts designed specifically for use by sole traders. Each account will have different features, so choose one that best suits your needs.
• Keep records: It’s important that you record your income and profits, as well as keeping evidence of any business expenses. HMRC doesn’t state how you must keep these records (you can do it on paper or as an e-file, if you prefer) as long as it’s clear, accurate and readable. However, it’s in your best interest for your profit and business expenses to be clearly shown. Creating a clear record-keeping process means you get the right deductions for business expenses, maximising your take-home income.

How do you calculate how much income tax you must pay?

Income tax bands are the same for both freelance and employed taxpayers, but freelancers are only taxed on their profit. For example:

• If you make £10,000 from your freelance business but your business costs are £6000, your profit is your personal income. Therefore, you pay yourself £4,000.
• The £4000 is taxable, but the £6000 is not.
• As of April 2019, you will have a £12,500 personal income which is tax-free. You’ll then pay 20% income tax on any income up to £37,500, 40% on income up to £150,000 and 45% on anything above £150,000.
• Scotland and Wales have slightly different rates, as listed here.

Remember that the income tax rate is only applied to your personal gross income, not your business turnover. For example, if – after the appropriate deductions – you pay yourself the business’ profit of £60,000, your tax liability will be calculated (as of 2019) as follows:

• You pay no income tax on your first £12,500 (your personal allowance)
• You pay 20% income tax on £7499.80 (this is the difference between £12,501 and £50,000, so £20% on £37499)
• You pay 40% income tax on £3999.60 (the difference between £50,001 and £60,000, so 40% on £9999)

For help on calculating your personal income tax, including any deduction you might be entitled to, there are a number of free Income Tax Calculators available online. For tax credits specifically, you can find out what you might be eligible for at the gov.uk website

What can you claim as an income tax-free business expense?

A business expense is something that’s required for the running of your business. These qualify for tax deductions and credits. These expenses can include the following:

• Business premises: rent, heating, utilities etc.
• Office overheads: stationary, phone bills, internet etc.
• Travel costs: train fare, parking, fuel etc.
• Staff costs: salaries, subcontractors etc.
• Financial overheads: insurance, bank charges etc.
• Advertising/marketing: the cost of a website or fliers, for example.

Remember, only business use, and not personal use, is non-taxable. For example, if you use the same mobile phone for your personal needs and business activity, you can only claim what you use for business as a business expense on your tax return. So if you spend £300 of mobile phone credit for the year, and you have spent £200 on personal calls and £100 on business, you can only claim the £100 credit as a business expense.

When do you need to file your tax returns?

To find out your filing due date and the e-filing process, go to the official website. Remember, failing to file your income tax, or making a late payment, can result in a range of fines. For instance, by filing your tax return after the deadline you will be charged a £100 fine. If you don’t pay the fine, there will be further, incremental charges made, and you’ll still be liable for your tax payment.

How do you get a tax rebate when you’re self-employed?

If you’ve paid too much income tax on self-employment you can contact HMRC to request a rebate. You will receive payment of this by the end of the tax year that you file the return in. To do so, you need to file a self-assessment form. This lets HMRC know how much income tax to refund.

How long you need to keep income tax records?

HMRC requires you to keep records of your income on file for at least 5 years after the 31st of January deadline of the relevant tax year. If you lose your income tax records, or the file is stolen or destroyed, you have to give your best income estimates when filing in your return. It can be useful to keep your taxes as an e-file, such as a spreadsheet or document. You can save this on a Cloud network, meaning that if your computer breaks you always have a backup and reduces the chance of you having to make a late fee payment, or having to pay too much income tax.