An Introduction to the tax system for the self employed

When you start out as self employed, the tax system can be confusing to navigate. This introduction will give you an overview of what you can expect with regards to tax deadlines and responsibilities.

Registering with HM Revenue & Customs (HMRC)

If you start working for yourself, you must register with HMRC by 5 October following the end of the tax year in which your self employment starts.  Otherwise you may be liable to a penalty based on the tax due to HMRC.

There are three ways that you can register:

• Online – visit www.gov.uk/register-for-self-assessment
• Phone – call the Newly Self–Employed Helpline on 0300 200 3300
• Post – download and complete form CWF1

Once you become self employed, the tax rules are quite different from those that may have applied when you were an employee. Instead of tax (and national insurance) being deducted from your earnings at source, you must be prepared to receive a bill at some time in the future. This can be a nasty shock if you haven’t put enough money aside.

What profits are taxed?

The starting point for the calculation of taxable profits is your profit and loss account. In calculating taxable profits, you are entitled to claim deductions from your business income in respect of any expenses incurred for the purposes of trade (with a few minor exceptions).

For most of the equipment you buy for your business, you will be entitled to deduct the full cost (up to £1 million). For most cars, you can deduct only a proportion of the cost for each year you own them and use them in the business.

If you take stock out of the business for your own use, this should be shown as a sale at market value in the accounts, and not at original cost. It may be better to show the original purchase as private expenditure (drawings).

Tax is payable on the whole of the profits of a trade, and so payments for your own ‘wages’ (drawings) are not deductible. However, if your spouse works in the business, their wages are an allowable deduction, provided they are actually paid and represent a reasonable reward for what is done.

There are other adjustments to profit for tax purposes which we can discuss with you in more detail. There is also the opportunity to claim certain flat rate deductions; for example, if you operate your business out of your home.

How is the tax collected?

Assuming the business starts to trade in the 2023/24 tax year, tax returns covering income for the year ending 5 April 2024 will have to be submitted to HMRC by the ‘filing date’ which is 31 October 2024 for paper returns and 31 January 2025 for online returns. The return will include a self assessment of your liability to income tax and capital gains tax.

There are automatic penalties for late filing of tax returns.

Payment of tax

Payments on account of income tax and Class 4 national insurance contributions (NIC) for 2023/24 will be due on 31 January 2024 and 31 July 2024. These interim payments will be based on one half of the total liability (less any tax deducted at source) for 2022/23. You will have the right to reduce payments on account if you believe the income tax for 2023/24 will be lower.

What about national insurance?

The self employed are subject to a two tier system of national insurance contributions.  Class 2 NIC is charged at a flat rate of £3.45 per week if earnings exceed £12,570 per annum.

Payments for self employed Class 2 NIC are due on 31 January following the end of the tax year.

Profits between £12,570 and £50,270 are subject to Class 4 NIC at a rate of 9%. Any excess of profit above £50,270 is subject to Class 4 NIC at the rate of 2%, without any upper limit. Class 4 NIC is collected by HMRC and is payable at the same time as the instalments of income tax.

Save for your tax

It is essential that you make proper provision to ensure the availability of funds to pay income tax and Class 4 national insurance. Interest on unpaid tax is chargeable by HMRC and is not deductible from business profits.

If you have any questions about registering for self assessment and your tax responsibilities please get in touch with your Swindells partner who will be able to advise you further.