Saving taxes – a guide for the self-employed

For people who are self-employed, being well-versed in taxation basics is always worth­while, par­tic­u­larly because the right knowledge helps you save a lot of money. What taxes need to be paid, and how they are reduced depends on the form of self-em­ploy­ment as there are different tax de­duc­tions for business owners and sole pro­pri­et­ors or freel­an­cers.

In this text, we will address and clarify the most important tax questions: What exactly can traders and freel­an­cers deduct from their taxes? Are there other rules for business owners? We provide an overview of what taxes can be incurred, and how self-employed people can save in our 10 step guide to tax.

Freel­an­cer, sole trader or business owner? One of the most important questions that arises when starting a business is what category of self-em­ploy­ment you fall under. It is also important because it is also the focus on which taxes are generated and how you can save money as a self-employed person. The following section explains how different in­de­pend­ent work fields are dis­tin­guished from one another.

In the UK, you will be taxed by Her Majesty’s Revenue and Customs (HMRC) as  a freel­an­cer or sole trader if you are self-employed. Since you are self-employed, you are re­spons­ible for filing your own tax returns. In order to find out what taxes you need to pay, you need to register with HMRC as being self-employed. As a self-employed person, you will be required to pay Income Tax and Class 2 and Class 4 National Insurance. In order to estimate your yearly tax bill, HMRC have a handy tool on their website for cal­cu­lat­ing your total. If you are filing your tax returns online, the deadline is 31 January after the end of the tax year. If you are filing your tax returns on paper, the deadline is 31 October after the end of the tax year. As a self-employed person, you need to file your annual tax return and pay estimated taxes on a quarterly basis. It is important to work out your net profit or net loss for the year before you begin filing your tax returns, so that you can find out whether you are required to pay both self-em­ploy­ment and income tax (in some instances, it is not a re­quire­ment to pay income tax on annual earnings of £400 or less). You will then also be able to discern which forms you are required to complete and file. Freel­an­cer, sole pro­pri­et­or or business owner?What exactly is a freel­an­cer? A freel­an­cer is a self-employed person who works for different employers for different lengths of time. They rarely have a fixed em­ploy­ment re­la­tion­ship, instead accepting orders and contracts from companies and customers and then perform them on a fee-paid basis. Some work in­de­pend­ently and others are rep­res­en­ted by a freelance agencyHow about a sole trader? A sole trader owns an un­in­cor­por­ated business by them­selves, making and/or selling items for profit whether online or in a physical store/market, or are paid for a service. You fall into the general self-em­ploy­ment category if you run your own business and are entirely re­spons­ible for it yourself, including location, equipment, any employees you may have and are selling goods or services for profit.

To un­der­stand how to save on taxes as a self-employed person, you must know which taxes you are required to pay. Here is an overview of the most important tax cat­egor­ies that can be applied to self-employed people.

Income Tax

Re­gard­less of whether you are a self-employed person, or an employee, everyone is obliged to pay income tax. This tax relates to the taxable profit made by a self-employed person (annual surplus). This is often the most important tax for the self-employed, as many company expenses can be deducted from income tax. If you can reduce your taxable profit, you reduce your tax liability. When filing for income tax, you will need to submit a Self As­sess­ment form to HMRC.

National Insurance

National Insurance are taxes paid by workers and employers in the UK which fund state benefit programs. Benefits that are funded by National Insurance include the Basic State Pension, Widows benefits, In­ca­pa­city Benefits, Un­em­ploy­ment and Support Benefits, Maternity and Guardian’s allowance and Ad­min­is­trat­ive costs. Regular workers con­trib­ute to National Insurance through PAYE which comes directly out of their paychecks, whereas the self-employed must con­trib­ute a fixed payment and then a second payment based on a per­cent­age of net profit up to a par­tic­u­lar threshold. Self-employed people are liable to pay Class 2 or Class 4 National Insurance. The Class 2 rate is ap­plic­able to those earning less than £6,025 per year, while Class 4 is ap­plic­able to those earning over £8,164 a year. You can file these taxes along with your Income tax in the Self As­sess­ment form.

Value Added Tax (VAT)

As a self-employed person you may be required to pay VAT which you can then charge on goods and services you provide to others through your business. The standard rate for VAT is 20%, although there are some ex­cep­tions to this. Not all traders are liable to pay VAT because they run very small busi­nesses – if your VAT taxable turnover is less than £85,000 during a 12 month period, you are not required to register for VAT. Re­gis­ter­ing for VAT can be done using form VAT1. VAT returns are submitted quarterly to HMRC. More in­form­a­tion regarding VAT can be found at the gov.uk website.

In­form­a­tion Returns

As a self-employed person, it is your re­spons­ib­il­ity to submit sup­port­ing documents for all of your tax filings to the HMRC. They will then compare the documents you have supplied to the in­form­a­tion on your tax returns to ensure that any and all payment trans­ac­tions are properly accounted for.

Reducing taxable profit and saving on your taxes is important for freel­an­cers and sole pro­pri­et­ors to maintain financial strength. Overall, the self-employed enjoy a re­l­at­ively wide margin of taxation, and have the pos­sib­il­ity to deduct a number of expenses from taxation, which above all con­trib­utes to them saving on their taxes.

There are a number of expenses that self-employed people can claim to reduce their tax bill. Typical examples of this would be, for example, travel expenses, ad­vert­ising costs, catering, work equipment or company cars. In order to claim this ex­pendit­ures in your tax returns, it is of the utmost im­port­ance to be able to provide cor­res­pond­ing documents for all expenses in your In­form­a­tion Returns. This is of course, best practice for all business ac­count­ing.

Not all of the tax-related expenses mentioned above can be im­me­di­ately be con­sidered freelance tax de­duc­tions or self employed tax de­duc­tions - some goods need a longer period to de­pre­ci­ate. Capital al­low­ances are available to mitigate the cost of de­pre­ci­ation, generally at 18% of the cost of machinery and equipment  which permits a taxpaying freel­an­cer or sole trader to gain back some of the cost of certain property items – es­sen­tially an allowance for the use and de­teri­or­a­tion of property.

So what exactly do self-employed people need to pay attention to in order to save money as ef­fi­ciently as possible? Here are 10 tips we have sum­mar­ised for the self-employed.

Clothing costs can be expensed in your tax return as long as you can prove that they are directly necessary for your work. This means that you can expense uniforms, and necessary pro­tect­ive clothing, any necessary footwear, specialty items such as hairnets and aprons if working in a kitchen, and costumes for actors and en­ter­tain­ers. Everyday clothing may not be claimed for, even if it is clothing worn to work.

If you are a self-employed person who has staff working for them, there are a number of areas where you can claim business de­duc­tions for them, such as: employee and staff salaries, bonuses, pensions, benefits, agency fees, sub­con­tract­ors and National Insurance payments for your employees. All of these expenses can help decrease your overall tax bill con­sid­er­ably.

Self-employed people may claim back the costs of any pub­lic­a­tion sub­scrip­tions they incur, provided those pub­lic­a­tions assists them in broad­en­ing their work skill or are otherwise provable be­ne­fi­cial to the business. Trade and pro­fes­sion­al journals, as well as mem­ber­ships to trade bodies and pro­fes­sion­al or­gan­isa­tions may be claimed back if they are business related. Gym and political party mem­ber­ship may not be expensed. Meal and Travel Expenses.

Travel expenses may be deducted if the trips being taken are be­ne­fit­ting the business. Self-employed people may claim back on bus, air, train and taxi fares, as well as hotel or gues­t­house bills. Meal expenses fall under more or less the same category as travel expenses – you may be able to claim back some de­duct­ible tax on business related meals that you have paid for through­out the year. Business meals in this instance refer to any meals purchased whilst trav­el­ling for business. Receipts of these must be kept to provide that the time and date match those of the trip.

Self-employed people may be able to claim back expenses on goods purchased for resale. Stock, raw materials and direct costs incurred from producing goods may be expensed, while any goods bought for private use, or de­pre­ci­ation may not be expensed.

A classic tax saving tip for a self-employed person concerns their company or business vehicle. In the UK, you may file for car expenses in the following areas: vehicle insurance, vehicle repairs and servicing, petrol, parking, vehicle licence fees, and breakdown cover. You may not claim for any driving costs that are not business-related or and driving fines. It may be possible to calculate your car expenses using a flat rate for mileage, rather than the actual costs of running the vehicle.

As a self-employed person, you are eligible to deduct taxes for any expenses incurred in hiring legal as­sist­ance or financial experts. Expenses can be deducted for hiring ac­count­ants, so­li­cit­ors, surveyors and ar­chi­tects, provided you can prove that they were engaged in work related to the business. You may also make a claim for pro­fes­sion­al indemnity insurance premiums. Legal fees for buying property or equipment may not be claimed, and neither can fines for breaking the law.

In the UK, you may receive a deduction for costs as­so­ci­ated with ad­vert­ising and promoting your business if you are self-employed. Ad­vert­ising is a broad category, and you will need to be able to prove that the services you are claiming a de­duct­ible for directly assisted with spreading the word about your company. Ad­vert­ising through different media channels such as news­pa­pers, and dir­ect­or­ies is covered, as well as mail ad­vert­ising in bulk and free samples. You may also claim a de­duct­ible on costs for producing ad­vert­ising materials such as business cards, posters, brochures, operating your website including site main­ten­ance and hosting fees. It is not possible to claim for event hos­pit­al­ity costs. Click here for important legal dis­claim­ers.