Whether you are newly self-employed and feeling a bit out of your depth or you have been self-employed for a while but are worried you may have missed something, this tax term cheat sheet will help you get to grip with the basics you need to know.
HMRC
HMRC (Her Majesty’s Revenue and Customs) is the government department responsible for setting out the tax rules, making sure everyone adheres to them and collecting taxes.
You’ll need to use your HMRC online account to manage all your taxes.
Tax Year
A tax year runs from 6 April to 5 April. All the tax rates and allowances you see relate to a single tax year and most change on 6th April at the start of each new tax year.
Employment
If you work for someone else and they work out all your tax for you, then this is employment. This is known as PAYE (Pay As You Earn).
P60
You’ll receive a P60 which summarises how much you have been paid when you are employed. If you are employed and self-employed, you’ll need this when it comes to completing your tax return.
P45
When you are employed and leave your job during a tax year, you’ll receive a P45 which summarises how much you have been paid during the tax year and the tax deducted. Again if you are employed and self-employed, you’ll need this when it comes to completing your tax return.
Self-Employed
Self-employed or sole trader. Anyone who works for themselves is self-employed and responsible for reporting their earnings to HMRC and working out their own taxes.
UTR Number
A UTR (Unique Taxpayers Reference) Number is the reference HMRC given to you once you have successfully applied for self-employment. It is a 10 digit code that is unique to you and is HMRCs way of identifying you. You’ll need it every time you speak to HMRC as part of their security checks.
Taxable Profit
When you are self-employed you can deduct expenses from your income. The difference between these two is known as taxable profit and this is the figure used for working out your tax bill.
Personal Allowance
This is the tax-free amount that you can earn before paying tax. Once you earn above £100,000 your personal allowance is taken back, according to how much you earn until £123,000 where the allowance is lost entirely.
Here is the current personal allowance for 2019/2020:
| 2021/2022 | 2020/2021 | |
|---|---|---|
| Personal Allowance | £12,570 | £12,500 |
| Personal Allowance Income Limit | £100,000 | £100,000 |
Income Tax
Income tax is the tax you pay on your earnings. You only pay income tax on your earnings above the personal allowance. Here are the current income tax rates for 2019/2020:
| 2020/2021 | 2020/2021 | |
|---|---|---|
| Personal allowance 0% | £12,570 | £12,500 |
| Basic rate 20% | £12,501 to £50,270 | £12,501 to £50,000 |
| Higher rate 40% | £50,271 and £150,000 | £50,001 and £150,000 |
| Additional rate 45% | over £150,000 | over £150,000 |
Class 2 National Insurance
Class 2 National Insurance is paid by anyone who is self-employed once their earnings reach the small profits threshold.
The Class 2 National Insurance protects self-employed individuals ability to claim state benefits like pensions and maternity allowance.
| 2022/2023 | 2021/2022 | |
|---|---|---|
| Small profits threshold – no NICs below this threshold | £6,725 | £6,515 |
| Class 2 National Insurance | £3.15 per week | £3.05 per week |
Class 4 National Insurance
Class 4 National Insurance is an amount self-employed individuals pay on their profits above the small profits threshold.
| 2022/2023 | 2021/2022 | 2020/2021 | |
|---|---|---|---|
| Lower profits limit (no NICs below this threshold) | £11,909 | £9,568 | £9,500 |
| Upper profits limit | £50,270 | £50,270 | £50,000 |
| Rate between lower and upper profits limit | 9.73% | 9% | 9% |
| Upper profits limit | £50,270 | over £50,270 | over £50,000 |
| Rate above upper profits limit | 2.73% | 2% | 2% |
Self-Assessment Tax Return
A self-assessment tax return is a form you need to fill out once a year to declare all your income and calculate how much tax you have to pay.
Self-Assessment Tax Return Filing Deadline
You need to submit your self-assessment tax return by 31 January each year. You’ll also need to pay any tax you owe by this date.
There are penalties for missing this deadline and failing to pay your tax.
Payment on Account
A payment on account is a contribution towards your next tax bill and is due by 31 July each year.
It is 50% of your previous tax bill and needs to be paid by anyone:
- Whose tax bill is over £1,000;
- Who pays less than 80% of the tax they owe through the payroll system (it has been deducted at source).
VAT
VAT is a tax charged on UK goods and services. The standard rate of VAT is 20%, although there are reduced rates of 5% and 0% available for certain items.
You need to register your business for VAT once your turnover reaches £85,000 (2019/2020), although you can choose to register voluntarily.
Allowable Expenses
Allowable business expenses are things that you pay for that you can set against your income to reduce your tax bill. Generally, most of the things you buy for your business will be allowable.
Disallowable Expenses
There are certain expenses that you pay for which you cannot set against your income to claim tax relief on – these are known as “disallowable expenses“.
Disallowable expenses include things like fines, penalties and entertainment.
Depreciation
When you buy more expensive pieces of equipment that you use to run your business that you’ll use for a number of years, like a laptop, you may need to use depreciation to write off the cost over the years you use it.
Depreciation is a disallowable expense so for tax purposes, you’ll need to claim capital allowances.
Bookkeeping
Bookkeeping is the recording of day-to-day financial transactions.
That’s things like:
- Invoicing;
- Bank payments and receipts;
- Logging cash expenses;
- Analysing out expenses.
Making Tax Digital
Making Tax Digital is the governments initiative to completely digitise the UK Tax System. Propose changes will affect everyone who is self-employed from 2020 (although that’s not confirmed).
It will mean you will need to manage all your bookkeeping on an approved software like Quickbooks.
