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Tax tips for sole traders

Annie Davis

When you’re a sole trader, your tax affairs should be fairly simple… but, unfortunately, tax rarely turns out to be as easy as this! There are many intricate points that you need to know about the taxes that your business is liable to pay, when they have to be paid and how to calculate them.

Emily Coltman ACA, Chief Accountant to FreeAgent – who provide an award-winning online accounting system for freelancers and small businesses – gives her top tips to help sole traders get their tax right.

Tax return and payment deadlines

As a sole trader, you need to pay income tax and one kind of National Insurance, called Class 4 National Insurance, on your business’s profits.  You’ll also have to pay Class 2 National Insurance unless your profits are very low (£5,595 or less in the current tax year).

These taxes must all be paid each year by 31st January following the end of the tax year (5th April), or you’ll risk incurring penalties from HMRC.

You must also file a self-assessment tax return (or tax return for short) by the same date each year, if you file it online.

Beware the payments on account trap

If your income tax and class 4 National Insurance amounts to more than £1,000 a year, then you’ll have to make payments on account.  Briefly, what that means, is that on 31st January and 31st July each year, you have to pay half of what you think your next tax bill will be, based on the previous year.

This means that in your first year you can end up paying 1 ½ a year’s tax bill all in one go – gulp!  Make sure you have an idea in advance of what your tax bill might be, and save towards it.

Cut your tax bill: claim business use of home

Hands up anyone who wants to pay more tax than they have to?

I thought not.  But too many freelancers fall into the trap of missing costs out of their accounts, which means they don’t claim all the tax relief they can, and therefore they end up by paying too much in taxes.

If you work from home as part of your freelance business – whether that’s all the time or just occasionally – then you may well be able to claim some of the running costs of your home as costs of your business, so reducing your tax bill.

For more information check out this video.

Cut your tax bill: claim the cost of using your own car

Another way to reduce your tax bill is to claim the cost of using your own car for business travel.

There are two ways you can do this.  If your business’s turnover is below the VAT threshold, currently £77,000 a year, then you can add up your business mileage, multiply that by HMRC’s approved rates, which are the same as mileage rates for employees, and include that cost in your accounts.  This is a simpler method than the other option, but if your car is a gas-guzzler, then you might find your tax relief is increased by using the second method.

If your turnover is above £77,000 a year, then you need to keep a full mileage log, showing not only business mileage but private as well.  Turn the business mileage into a percentage of the total, then work out how much you’ve spent on your car all together – fuel, MOT, repairs, insurance, and so forth – and multiply that by the business percentage use of the car.

Money you take out has no effect for tax

When you’re a sole trader, unlike directors of limited companies, you can take as much money out of your business’s bank account as you like and it doesn’t have any effect on your business’s tax bill – none at all.

This is because there’s no legal difference between you and the business when you’re a sole trader.  Legally you are the business.  So you can’t claim tax relief on money you take out of the business, or money that you spend on personal items from your bank account.

As a sole trader you still need to make sure you comply with HMRC’s rules, but by taking the right advice you can avoid paying too much in taxes!

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