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The Sole Trader’s Guide to Tax

person performing calculations on a calculator on a table with notepads and glassesIf you’re thinking of going it alone in business, one of the key things to get your head around is the world of tax.

Being a sole trader means you run your own business and are therefore self-employed.

Being a sole trader means registering for Self Assessment and filing a tax return every year. You need to do this if you earned more than £1,000 through self-employment during the previous tax year.

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If you haven’t come across it before, Self Assessment is the system HM Revenue and Customs (HMRC) uses to collect tax on your business income. When you’re employed by a company, tax is deducted automatically at source; when you’re self-employed, Self Assessment is how you tell HMRC how much you’ve earned and therefore how much tax and National Insurance you need to pay.

Registering as self-employed

The first thing you have to do to get your tax in order is to register as self-employed. You can do this quickly and easily online with HMRC.

While HMRC advises that people should register as soon as they start working as a sole trader, you actually have until 5 October in your business’s second tax year to register. You do risk being fined if you don’t register within this time frame though.

When you register, you’ll be sent your 10-digit Unique Taxpayer Reference and will be able to set up an online account for Self Assessment. After this, you’ll get automatic reminders when you need to complete your Self Assessment return.

Key Self Assessment deadlines

The tax year runs from 6 April 6 to 5 April the following year and you need to submit a Self Assessment return about all your business income activity during that 12-month period, including accounts, turnover and profit. You can also deduct certain allowable expenses. HMRC will use this to work out how much tax and National Insurance you should pay on the amount you earn over and above the annual personal tax allowance.

The deadline for submitting a paper return is 31 October. However, HMRC is encouraging businesses to go digital wherever possible.

The deadline for submitting a tax return online is a much later date of 31 January for the previous tax year. However, any tax you owe for that period is also payable on 31 January, so it can help with budgeting and cash flow to submit your return well in advance so you know exactly what to expect.

Payments on account

This is something to really be aware of as a sole trader as it can easily catch you out if you haven’t budgeted for it. The Self Assessment system requires you to make ‘payments on account’. This is an advance payment for the tax you are expected to owe for the coming year.

These are payable in two instalments, 31 January and 31 July and it’s based on the amount you earned in the previous tax year. It means that if you’re paying for the first time, your 31 January payment may be much more than you were expecting.

It can help to put money aside for tax either every month, or as a percentage of each invoice paid. For the current 2019-2020 tax year, you can earn £12,500 tax-free. If you earn between £12,501 and £50,000, you’ll pay 20% tax. This rises to 40% for what you earn between £50,001 to £150,000.

However, once your business is turning over more than £85,000 you must register for VAT. You can choose to register voluntarily if your turnover is less than £85,000. There are pros and cons to doing this depending on your circumstances so it’s something to really carefully consider, research and take advice on.

Your National Insurance Contributions will also be payable to HMRC through the Self Assessment process. Again, your liability will be calculated by HMRC and you’ll pay this the same time as your tax liability.

Other tax options

While registering as self-employed is the easiest way to start a business, there are other tax options. The main one is whether to operate as a sole trader or a limited company. Even if you start as a sole trader, you could decide at any time that you want to form a limited company instead. While there are advantages and disadvantages to this, it does have a tax implication – you’re likely to pay less tax and National Insurance by doing this. But this could be negated by other factors, so again it’s something to research and discuss with your financial adviser.

Funding for sole traders

As you can see, there’s a lot to get your head around and you don’t want to fall at the tax hurdle as you’re starting out in business. You might need some funding for your sole trader business to help you either get off the ground or even to pay initial tax bills while you build the business and build a regular income.

 

 

Funding Options helps businesses find the right funding for their situation. Whether they want to grow, they’re fighting for survival, or simply need to pay a tax bill, @FundingOptions is helping businesses walk tall

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