If you're a sole trader the tax you owe is calculated via a Self Assessment tax return. This means:
- You need to submit an annual tax return to HMRC (Her Majesty's Revenue and Customs) showing how much you've earned from
self employment and what costs you've incurred.
- Your tax return figures should be for the tax year which starts on 6th April each year and runs through to 5th April the following year.
You pay personal tax on your business profits. Your profit is your income minus certain business expenses. To find out what business expenses you can include see the allowable expenses page on the HMRC website.
- Your personal tax allowance is deducted from your profits to calculate the amount of tax you owe, unless it's already been used elsewhere (eg if you also have paid employment).
National Insurance contributions if you're self-employed
You pay standard rate Class 2 National Insurance Contributions (NICs) (£2.70 per week in 2013/2014) These are usually paid quarterly.
- If you're earning below the small earnings threshold (£5,725 per year in 2013/2014) you can apply for a Class 2 NICS exemption.
You also pay Class 4 NICS on any profits you make (in 2012/2013 it's 9 per cent of profits between £7,795 and £41,450, and 2 per cent on profits over £41,450). Class 4 NICS are calculated and paid for when you do your tax return.
Sole trader tax return deadline dates
You'll receive a notice to complete a tax return soon after the new tax year begins in April.
If you complete a paper tax return it's got to be completed and returned by midnight on 31 October. Once the forms have been received HMRC will calculate how much tax you need to pay and send you a bill.
It's much easier if you complete your sole trader tax return online. You have until 31 January to complete it and you'll see how much you owe straightaway.
NB If you miss the tax return deadline date by just one day you get an automatic fine of £100 for completing your tax return late, and the fine goes up the longer you take to send in your completed tax return.
Claiming business expenses
To find out what business expenses and allowances you can claim go to one of HMRC's 'Self assessment for self-employed people' workshops. These workshops cover what is, and what's not, an allowable expense. You also get guidance on how to keep proper business records and how to complete the self-assessment forms. Book an HMRC workshop on claiming business expenses.
When to pay your tax bill
You get your main tax bill sometime in January. For your first year in business this bill will be for the tax you owe for the previous tax year (eg the tax you pay on 31 January 2014 will be for the tax year 6th April 2012 to 5th April 2013). Payment is due before 31st January, so you won’t have much time to find the money if you haven’t already saved it!
'Payment on account'
Payments on account are part payments towards your next tax bill. So on 31 January as well as paying tax on the previous year's profits you pay half of the tax due for the current tax year. This is an estimated figure based on your previous year's earnings. You don't always have to pay this - it depends on the amount of tax due and the kind of income you receive.
You get another tax bill in July, so don’t stop saving once you’ve paid your January bill. This July bill is to pay the rest of the tax you owe on the profits you have made in the previous tax year.
The 'balancing figure'
After taking into account the 'payment on account' you paid at the end of January and the tax you paid in July, any credit or additional amount that needs to be paid will be made at the end of the following January. This payment or refund is called the 'balancing figure' and it's there to make sure you pay exactly the right amount of tax.
So, for the second and subsequent years you're in business, your January tax bill will be the the balancing figure for the previous year plus the payment on account for the current tax year.
You must always pay any tax you owe for the previous tax year by 31 January.
So, if your first year of business is in the 2012/2013 tax year:
On 31 January 2014 you'll pay
- Tax on the profits for the whole of the tax year 2012/2013
- And a payment on account for 2013/2014 tax year
and on 31 July 2014 you'll pay
- The rest of the tax due for 2013/2014 tax year
And in January 2015 you'll pay
- The balancing figure from 2013/2014 (if there is anything outstanding)
- A payment on account for 2014/2015