Important taxes U.K. small business owners and freelancers must know, and why they’re essential to understand.
When you decided to start your own freelance business, your friends and family may have said things like, “You’ll pay income tax by yourself.” Or, “One day, you’ll register for corporation tax.” But do you know what terms like these even mean?
There are some key differences between filing taxes as a sole trader, a partnership, or a limited company or limited liability partnership (LLP). So you’ll need to understand a few of the different taxes there are in order to pay the right amount of tax.
In this post, we’ll define 6 taxes small business owners should know about and why it’s essential you understand what these are.
Table of Contents
1. Income Tax
Sole traders pay income tax on their business’ profits. You’ll pay tax on any profit over the personal allowance of £12,570 as long as you’re not earning any other income, such as a salary from a permanent job. This comes in 3 rates:
- 20% for the basic rate (for income between £12,571–£50,270)
- 40% for the higher rate (for income between £50,271–£125,140)
- 45% for the additional rate (for income over £125,140)
The rate you pay will depend on how much you earn. And there are different rates in Scotland.
The deadline to pay income tax is the same as filing your self-assessment: 31st October for paper returns or 31st January for online returns. This will always be for the previous tax year.
So, you have until 31 October 2024 or 31 January 2025 to pay your income tax for the 2023/24 tax year (which runs from 6 April 2023 to 5 April 2024).
If you run a limited company, you’ll pay income tax on any dividends over £1,000 you take from your business. The rates for this are:
- 8.75% for the basic rate
- 33.75% for the higher rate
- 39.35% for the additional rate
2. National Insurance
As a sole trader, you’ll pay Class 2 and Class 4 National Insurance contributions on your profits alongside your income tax.
These payments are due at the same time as your self-assessment and income tax payments: 31st October for paper returns and 31st January for online returns.
The amount you pay as a sole trader depends on how much you earn. So, you’ll pay:
- Nothing for profits under £12,570
- £3.45 per week (Class 2)
- 9% for profits between £12,571 and £50,270 (Class 4)
- 2% for profits of £50,270 and above (Class 4)
If you’re running a limited company and paying yourself, you’ll need to deduct Class 1 employee contributions from your salary and pay these to HMRC. Your company will also have to pay Class 1 employer contributions at 13.8% unless this is covered by the employment allowance.
The current rates for Class 1 employee contributions are:
- 12% for pay £1,048–£4,189 per month
- 2% for any pay over £4,189 per month
3. Payment on Account
A payment on account is a contribution to your next year’s tax bill. You’ll normally pay this in 2 instalments:
- The first payment will be due at the same time as your self-assessment, income tax, and National Insurance payments: 31 October for paper returns, or 31 January for online returns
- The second payment will be due on 31 July
Each payment will be half of your previous year’s tax bill. You’ll have to make these 2 payments unless:
- Your last bill was under £1,000
- You’ve already paid more than 80% on the tax you owe, which you have done through your tax code or by deducting interest on your savings
You’ll need to make a balancing payment if you still owe any tax by 31 January in the next tax year. If you know your tax bill is going to be lower than last year, you can ask HMRC to lower it by getting in touch online or by phone.
4. Value Added Tax (VAT)
Whether you’re a sole trader, limited company, in a partnership, or LLP, you’ll need to register for and pay VAT if you’re earning more than £85,000 per year. VAT-registered businesses need to charge customers VAT for their services, which can then be claimed on business expenses.
You can register if you earn less than this, and doing so means you can claim VAT on any purchases you make, such as equipment and stationery. But you’ll need to submit VAT returns to HMRC if you do.
VAT is currently set at 20% for the standard rate, 5% for the reduced rate, and 0% for some exceptional circumstances. You need to submit VAT returns every 3 months to HMRC, even if you have nothing to claim that quarter.
You also need to submit your returns using Making Tax Digital (MTD) and keep digital records of these using VAT-compatible software.
5. Corporation Tax
If you’re the owner of a limited company, you’ll pay corporation tax on the profits you make. There’s no personal allowance equivalent in this scenario, so as soon as you’re making a profit, you’ll start paying corporation tax (unless you’ve previously made losses).
So, how much tax will you pay? The rate for corporation tax is 19% for taxable profits below £50,000 (small profit rate) and 25% for taxable profits above £250,000 (main rate). It’s payable 9 months and 1 day after the end of your accounting year. If your year ends on 31 March, you’ll have to pay corporation tax by 1 January.
You’ll also need to complete a CT600 (company tax return) form no later than 12 months after your first accounting year.
6. Business Rates
Do you run your business from an office or other property? Then you may need to pay business rates. This is similar to council tax, but it’s exclusive to business properties. Some locations, such as farms, are exempt from paying business rates, while others may be entitled to business rates relief.
Your local authority will calculate your business rates and send you a bill. These usually come in February or March and are due to be paid on 1st April the following year. Rates are determined based on the rateable value of your property. This is the estimated value it would have if you were to sell it.
If you run your business from home, you usually won’t have to pay business rates. You’ll only need to pay council tax, and some of this can be claimed as expenses. However, there are exceptions. You can’t claim if:
- You employ staff who work at your home
- You sell goods or services to customers from your home
- You’ve adapted your home so you can work from it
- Your home is part business and part domestic
Get Help When You Need It
Understanding these important taxes will help you get a head start with your freelance business and help you recognise what you need to pay, how much, and when.
But dealing with small business taxes can be tough. If you’re ever confused about taxes, it always helps to seek professional advice from an accountant or financial adviser who specialises in helping freelancers and small business owners.
Having an understanding of all these taxes means you’re better prepared to deal with HMRC and to keep your books in order all year round.
This post was updated in January 2024.