Sole Trader Taxes In the UK and How Much do You Need to Pay

Setting up as a sole trader in the UK is a responsible step towards wider career opportunities. Alongside numerous benefits, it also entails paying taxes for sole traders in the UK. Before you plunge into self-employment, there are several things to consider regarding the taxation system and how it differs depending on what route you choose. In this article, we reveal how to become a sole trader, what sole trader tax rates in the UK are, and what items are tax-free. 

Being your own boss has many advantages in terms of income and flexibility. For this reason, more and more British embark on the track to unfold their whole potential as sole traders. This ambition is reflected in 2022 October statistics, which show that 4.2 million of the UK population is self-employed. Despite plummeting at the beginning of the outbreak of the pandemic, the rate exceeded 5 million in 2020 and has been steadily growing since then.

What Do I Need to Have to be a Sole Trader in the UK?

Getting started as a self-employed person is a piece of cake. You merely go about your trade or company and send an invoice to your clients. You also have to contact HMRC and inform them that you are willing to become a sole trader and fill in the self-assessment registration form. After giving HMRC your income and expense details, you must pay your sole trader taxes in the UK and national insurance. Setting up as a self-employed individual is much more affordable than starting a limited company. With a low-cost software package and a good business bank account, you can handle the administrative side of self-employment quite easily. Follow for more information on how to set up a limited company. 

HMRC and registering for Self-Assessment

First, you must register with HM Revenue & Customs (HMRC), so you can properly pay your taxes. But, before diving into the question "what taxes do sole traders pay?", you should understand when you can register as a sole trader. Your business's second tax year begins on the 5th of October 2023, and that's your deadline for registering with HMRC as a sole trader if you start self-employed work in May 2022. Otherwise, you will have to pay a fine. Each tax year lasts from the 6th of April to the 5th of April of the next year. There are three ways in which you can register with HMRC based on your circumstances.

The first one is to register through the website, given that you’ve never completed a tax before. This way, you register for Self Assessment tax and also get Class 2 National Insurance. 

If you are launching a business as a self-employed for the first time and have had experience filling out self-assessment tax return applications, or if your income wasn't taxed at source, like rent or dividend income, you must complete CWF1 to get Class 2 National Insurance and submit your sole trader status. CWF1 is a form for completing your self-assesment tax return online. You'll be able to maintain your current Self Assessment account by doing this.

Insurance

Any debts and liabilities you incur as a self-employed individual are your responsibility. There may be risks it is worth insuring against, depending on what you do. Some insurances are optional, meaning they are not necessarily needed, while others are legally required if you are planning to be a sole trader. The latter include: 

Employers’ liability. If you are running a limited company with hired employees, consider having this type of insurance. It will cover medical expenses in case your workers come down with some illness or get injured.

If your limited business has just one employee who holds half of the company’s share and above, you are not required to take out employer's liability insurance. The exemption also applies if you rely on only family members as employees or if you are a sole trader. Taking out insurance is necessary regardless of whether you have full-time employees or if you take on temporary workers or seasonal workers only.

Public liability. The law does not demand public liability insurance. Nevertheless, it is recommended to keep one at hand if any public representatives visit your workplace. You could discover that certain businesses need you to acquire public liability insurance before issuing you a contract or permitting you to operate on their property. Any damages asserted against you will be covered by your public liability insurance coverage, along with legal defence costs.

Professional liability. Executives must take action based on some hasty or controversial judgements, even though their outcome might be devastating for the company years later. Professional liability, sometimes referred to as Professional indemnity, enables the whole professional team to carry out their duties without constantly keeping an eye on their backs. Even if the mistake that led to the claim occurred years ago, professional liability insurance covers lawsuits filed whilst the policy is still in place. Therefore, it must be maintained current.

Bank Account

Having a separate business bank account is highly advised. It's crucial to keep your company funds and personal money separate.  Let's face it, when customers make transactions directly to your company's name instead of the personal one, it sounds more professional. 

What Taxes Does a Sole Trader Need to Pay in the United Kingdom?

What tax does a sole trader pay? Income tax is levied on net profits, such as earnings from a business, property rental income, money obtained through investments, money from working for somebody else, or dividends received from a corporation. Read on about how to pay tax as a sole trader in the UK and what tax rates exist.

Income tax

Paying taxes as a sole trader mostly depends on your annual earnings. Like hired workers, you will have to pay more tax if your income is larger. The personal allowance for the 2022–2023 tax year is £12,570 (it is expected to be the same until 2026). You can make up to this amount before having to pay any income taxes. By the 31st January 2023, you would need to submit your tax return for this period and pay any due taxes to HMRC. However, if you miss this date, you can still amend the tax return — you have 12 months from this date (until 31st January 2024) to file the request.

The tax rate for a sole trader for the 2022–2023 years is as follows:

• 20% basic income tax is applied to earnings up to £50,270.
• Income between £50,271 and £150,000 is subject to a higher income tax rate of 40%.
• 45% of additional income tax is levied on earnings beyond £150,000.

Payments on account (POA)

Sole proprietors often have to pay Payments on account for the next tax year. A POA is divided into two equal payments due on January 31st and July 31st, respectively. In case you underpaid a sole trader tax in the United Kingdom, you may have to make a balancing payment for that year, and if you overpaid, HMRC might refund you. You should be cautious using the self-assessment method for the first time. The initial tax payment may end up going beyond what you expect. 

National Insurance Contributions (NICs)

Apart from income tax, you cannot start your business without National Insurance Contributions (NICs). Your required payment is based on your income level. Now there are two NIC categories that the self-employed must pay:  Class 2 for those whose profits exceed £6,725, and Class 4. The sum for Class 4 is determined by HMRC throughout the yearly self-assessment procedure. The liability correlates with the gain your business produces.

VAT

Value-added tax is not due unless your company generates £85,000 in revenue each year. As a sole proprietor, if your yearly revenue reaches this threshold, you must register for VAT, which is payable on the majority of products and services. Although you must add VAT to your sales, you can deduct it from your purchases.

What is not Taxed?

You should deduct all permitted costs when calculating your profit. This is the amount that determines how much taxes a sole trader pays in the UK for tax and social security. Here is a list of things that fall under legitimate business expenses.

The costs of running your office

Working from home, you can offset most of your household bills, which include heating, electricity, water consumption, Internet etc. If you prefer to use an office for work-related purposes to keep your business away from home, HMRC will accept a reasonable estimate as long as your claim is modest enough. 

Office equipment

Sometimes you can also claim tax returns for office equipment, like computers and printers, through capital allowance, but it depends on the frequency of their usage. Unless you are utilising the cash basis, costs associated with software licences and rents may be deducted against earnings during the rental.

Travelling 

You can deduct a percentage of the real costs associated with operating a car if you don't utilise the established mileage rate. The amount you are eligible to claim is based on how often your vehicle was used for business purposes, which may be determined using the mileage record. Travel and lodging expenses for business trips may also be claimed, except for home-work commuting.

How Can I Do Accounting?

Being a sole trader implies dealing with many tasks simultaneously. However, given their hectic schedule, they cannot always make enough time for everything. Sometimes you just cannot remember everything — how much taxes a sole trader pays, when to do this, and how you can save money on taxes. For this reason, the question of who is going to do the accounting arises.

The first option is to hire an accountant. They will save you from some multitasking and guarantee that you receive tax credits and deductions you are entitled to. Another way is to look into the software which will assist you with doing monotonous calculations. Today, startups and small businesses are spoilt for choice in terms of online accounting software programs. For small company owners, technology helps to lessen the burden of bookkeeping and accounting while also offering several additional advantages. For a starting sole trader paying tax, such software is necessary for accurate tax calculations.

Expert Advice You May Need

Doing tax accounting can surely be overwhelming at times. Here are some expert tips on how to make this process easier and more efficient.

Keep records of expenses

Recording money coming in and going out is a fundamental component of bookkeeping. Keep track of the money collected in one column and the money paid in another in a spreadsheet or even simply a book. To provide the taxman with the information he wants, you must detail how you earned and spent money.

Monitor financial records 

Your financial records should line up with your statements. If they don't, you or the bank must have done something wrong. Ideally, you've already adopted cloud-based accounting software, which enables you to reconcile your accounts using an automatic feed from your bank.

Choose a convenient software

Start-ups often face the challenge of choosing the right software for their business. The matter is that you won’t know what works best for your business until you try one of the available online solutions. You should consider the following implications before selecting the web-based accounting alternative. Check if it offers VAT, multi-currencies, reporting, and bank modules and whether it can link to personal annual tax returns. 

How The Hoxton Mix Can Help

If you are considering registering a new company in the UK and are in two minds about how to make your business address, The Hoxton Mix is there to help set up your virtual office address in London. We are a leading virtual office provider specialising in technological approaches to virtual office solutions. We've helped more than 40,000  SMEs manage their business remotely without the need to worry about storage, delivery, customer service, and other concerns. Our company has experience cooperating with different highly-respected partners and has a compelling rate. Want your business up and running without overhead expenses? The Hoxton Mix has much to offer for a pleasant price.

Final Thoughts

Going self-employed can be accompanied by many financial concerns, but if you plunge into it deeper, you will see there aren’t any things to worry about. All it takes is to take responsibility for your decisions and foresee possible unexpected contingencies, so they don’t harm your business in the long run. 

FAQ

How can I calculate a sole trader tax?

The sum of your tax depends on your income. To work out your tax, use a tax calculator and see how much you will have to pay.  

Can a sole trader avoid paying sole trader taxes in the United Kingdom?

Yes! There are many allowances you have the right to claim. You should also use good software which will help you do precise calculations and keep track of timely payments to avoid fines for delays.

Do I need an accountant as a sole trader?

Whether you want to do the accounting yourself or hire a person for this work is up to you. A single proprietor is not legally required to employ an accountant, but it is a good idea if you want to be sure that all of your tax affairs are in order.