If you are a sole trader your tax will be self-assessed. This article gives you an overview of the self-assessment process, shows you how to calculate Income Tax and takes a look at the payments on account regime for the self-employed.
The tax free allowance for 2018/19 is £11,850.
Sole traders with income above £100,000 will see a restriction to their personal allowance and sole traders with income in excess of £123,700 will not have a personal allowance.
Sole traders (and partners in partnerships once the partnership profits have been apportioned) will pay tax at the same rates as employees.
The table shows the tax rates you pay in each band if you have a standard Personal Allowance of £11,850.
|Band||Taxable income||Tax rate|
|Basic rate||£0 to £34,500*||20%|
|Higher rate||£34,501 to £150,000*||40%|
|Additional rate||over £150,000*||45%|
*For 2018/19, there are different income tax rates for Scottish residents.
Note: Other income that sole traders receive in addition to business profits will need taxing separately. There are different rules for both tax and National Insurance for different income types. It is best to speak to a professional if you have particularly complex tax affairs.
Here are examples showing tax rates at 20% and 40%.
The starting point will be a profit and loss account which is effectively the sales that the business has made minus the business’ costs and overheads. However, some of these costs, although perfectly allowable for accounting purposes are not allowed as expenses for tax purposes. The rules here are complicated and it is important you get it right, so it is worth paying a professional for advice.
Accounts are usually prepared for a 12 month period, which may not fall in line with the tax year which for tax year 2018/19 starts on 6 April 2018 and end on 5 April 2019.
Where it is a 12 month accounting period, HM Revenue and Customs (HMRC) allow you to use the ‘normal basis’. This means you tax the accounts that end in the tax year even though part of the accounting period will fall in the previous tax year.
As an example let’s assume Chloe prepares her sole trader accounts each year to October. In 2018/19 her accountant will tax Chloe on the year’s accounts ending on 31 October 2018 as these accounts end in 2018/19.
The rules are more complex for six months (short) or 14 months (long) sets of accounts, when a business makes losses or when a business ceases to trade.
Income Tax is payable on 31 January following the tax year. Where most of your income is not taxed throughout the year as it is earned e.g a self-employed individual, it is likely that you will fall under the payments on account regime. Payments on account are advance payments towards your next year's income tax.
Let’s say it is 2018/19 and you make payments on account each year.
Once the actual tax liability is calculated for 2018/19, you will deduct the payments you have already made and pay or reclaim the difference from HMRC.
Most small businesses will work with an accountant here to ensure they are making the correct payments on account.
As a sole trader you must register for National Insurance contributions with HM Revenue and Customs (HMRC). This article gives you an overview of National Insurance for the self-employed and demonstrates how much National Insurance will be due by a sole trader for 2016/17.Read more
If you are self-employed you will pay your tax using a self-assessment tax return. It is your responsibility to inform HMRC that you have started to trade and to file a tax return under self-assessment.
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