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Do I have to pay tax on my side business? | Side hustle taxes

Many people are really feeling the pinch at the moment, while the chances of getting a pay rise to cover budget-busting cost-of-living price increases are slim in most cases. With many no doubt looking for other ways to boost their income, the answer could be to start a “side-business”.

Alternatively called a “side-hustle” or “side gig” (both more common in the US), a side-business is simply a business that you run in your spare time or even while you’re doing your job. A popular option is a “dropshipping” side-business, which is where you sell products online without storing or processing them, because your supplier(s) takes care of both. But before you start your own side-business, you need to know the tax implications.

Do I pay tax on my side-business income?

If you earn money from selling goods or providing services with the intention of making a profit, HMRC may treat you as carrying on a trade. This applies whether your business is your main source of income or something you do alongside employment.

The first £1,000 of gross trading income you receive in a tax year may be covered by the trading allowance. If your total trading income is no more than £1,000, you may not need to register as self-employed or report the income to HMRC, provided you have no other reporting obligations.

If your trading income exceeds £1,000, you’ll normally need to register with HMRC and report your income. The amount of Income Tax and National Insurance you pay will depend on your taxable profits and your total income from all sources, including any employment income.

If you’re required to report your business income, you’ll normally do so through Self Assessment or, where applicable, Making Tax Digital (MTD) for Income Tax.

Side hustle taxes: What if I register as a sole trader?

If you start a side business on your own, you can usually operate as a sole trader. It’s the simplest business structure to set up and is a popular choice for people starting a business alongside employment.

As a sole trader:

  • you and your business are legally the same entity;
  • you’re personally responsible for the business’s debts;
  • you pay Income Tax and, where applicable, National Insurance on your business profits; and
  • you’ll need to keep accurate business records.

If your side business needs to be reported to HMRC, you’ll need to register as a sole trader. Depending on your circumstances, you’ll report your business income through Self Assessment or, where applicable, Making Tax Digital (MTD) for Income Tax.

If you’re registering for the first time, you must normally register with HMRC by 5 October following the end of the tax year in which you started trading.

It’s important to keep up to date with your reporting and payment obligations, as HMRC may charge interest and penalties if deadlines are missed.

Side hustle taxes: What if I set up a limited company?

If your side business is likely to grow or you want greater protection for your personal assets, you may decide to set up a private limited company instead of operating as a sole trader.

A limited company is a separate legal entity from its owners. This means the company is generally responsible for its own debts, and your personal financial liability is usually limited to the amount you’ve invested in the company, unless you’ve given personal guarantees or breached your legal duties as a director.

However, a limited company has additional legal and reporting responsibilities. For example, it must file annual accounts, submit a confirmation statement to Companies House and pay Corporation Tax on its taxable profits. As a director, you may also pay Income Tax and National Insurance on any salary you receive, while dividends may also be taxable if you’re a shareholder.

Setting up a limited company can be beneficial in some circumstances, but it also involves more administration than operating as a sole trader. Before deciding, consider both the tax implications and the additional compliance requirements.

If you’d like to compare the two options in more detail, read our Sole trader or limited company? guide.

If you’re starting your side business with one or more other people, you may wish to form a partnership. Partners share the profits of the business and are each responsible for paying tax on their share of those profits.

In an ordinary partnership, the partners are also personally responsible for the partnership’s debts. If limiting personal liability is important, you may wish to consider a limited liability partnership (LLP) or a limited company instead.

How much tax will my side-business pay?

If you decide to run a side business as a sole trader, you’ll normally pay tax on your taxable profits, not your total sales. Taxable profits are calculated by deducting allowable business expenses (or, where appropriate, claiming the trading allowance) from your business income.

Your side business isn’t taxed separately from your other income. Instead, your taxable profits are added to your other taxable income for the tax year, such as your salary, pension or rental income. The amount of Income Tax you pay will therefore depend on your total taxable income and the Income Tax bands that apply for the tax year.

If you’re required to report your business income to HMRC, you’ll normally do so through Self Assessment or, where applicable, Making Tax Digital (MTD) for Income Tax.

Is National Insurance payable on side-business income?

Yes, it can be.

If you have a side business as a sole trader, you may need to pay National Insurance on your business profits, even if you’re already paying National Insurance through your employer on your salary.

National Insurance on your employment income and your self-employment profits is calculated separately under different rules. The amount you pay on your side business will depend on the level of your taxable profits and the National Insurance thresholds for the tax year.

Depending on your profits, you may:

  • pay Class 4 National Insurance;
  • receive National Insurance credits towards your State Pension and certain other benefits; or
  • choose to make voluntary National Insurance contributions to help protect your National Insurance record.

What side-business tax expenses can I claim?

If you run your side business as a sole trader, you can usually claim tax relief for allowable expenses that are incurred wholly and exclusively for business purposes. Claiming allowable expenses reduces your taxable profit and therefore the amount of tax you may have to pay.

If an expense is used for both business and personal purposes, you can normally only claim the business proportion. Some costs are not allowable, including client entertaining, fines and penalties, and personal expenses.

If you buy equipment or other long-term business assets, different tax rules may apply depending on the item purchased and the accounting method you use.

Common examples of allowable expenses include:

  • Premises costs

    Such as rent, business rates, heating, lighting and other running costs for business premises.

  • Working from home

    If you run your side business from home, you may be able to claim a proportion of your household running costs or use HMRC’s simplified expenses where applicable.

  • Travel costs

    Including business mileage, public transport and parking for business journeys. Ordinary commuting is not an allowable expense.

  • Staff costs

    Including wages, salaries, pensions and other employment costs if you employ staff.

  • Other business costs

    Such as stock and raw materials, stationery, printing, postage, advertising, insurance, bank charges, training and professional subscriptions.

What tax records must I keep for my side-business?

Keeping accurate business records is essential, whether your side business is your main source of income or something you do alongside employment.

You should keep records of:

  • all business income, including invoices and sales records;
  • receipts and invoices for business expenses;
  • bank statements relating to your business;
  • mileage records if you claim vehicle expenses; and
  • details of any business assets you buy, such as equipment or machinery.

If you’re required to report your business income to HMRC, you’ll need to keep these records up to date. If you’re within Making Tax Digital (MTD) for Income Tax, you’ll also need to maintain digital records using compatible software.

Business records should normally be kept for at least six years after the end of the tax year to which they relate. HMRC may charge penalties if you fail to keep adequate records or your records are inaccurate.

Registering a side-business for VAT

If your side business’s VAT taxable turnover exceeds the VAT registration threshold, or you expect it to exceed the threshold within the next 30 days alone, you must register for VAT with HMRC.

You can also choose to register voluntarily, even if your turnover is below the threshold. However, voluntary registration also brings additional responsibilities.

If the VAT you charge your customers is more than the VAT you can reclaim on your business purchases, you’ll pay the difference to HMRC. If you reclaim more VAT than you charge, HMRC will normally repay the balance.