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Currently, there are already more than 50% of self-employed people registered as sole traders in the UK, and the number continues to rise. It comes as no surprise as sole-proprietorship is the simplest business structure, making it the topmost choice for most startup businesses.
Sole proprietorship allows businesses to start right away without much paperwork and have more autonomy, although taxes can be at a higher rate. Once you are a sole trader, you are personally responsible for whatever losses and debts in your business bank account.
Does a sole trader pay corporation tax? We will answer that in this article and walk you through the kinds of taxes a sole trader pays, when they pay their tax bill, how much their dues are, and how to comply with their legal and tax requirements.
Do Sole Traders Pay Corporation Tax (CT)?
Unlike a limited company, usually with LLC in the company name, a sole trader or partner doesn’t need to pay CT nor submit company tax return. As self-employed, a sole trader pays their self employed tax through self assessment tax returns instead. CT only applies to any limited company in the UK.
Specifically, CT is required from the following business, regardless if they’re incorporated or not:
- Members’ associations, societies, and clubs
- Housing associations
- Trade associations
- Businesses carried on by groups of individuals
- Foreign businesses with UK branches or offices
These businesses pay CT on profits they made from investing, selling business assets, and trading, whether inside the UK or abroad. Companies registered outside the UK only pay corporation tax for what they earn from their UK branches or offices. As a sole trader, you will not be paying corporation tax.
List of Taxes for Sole Traders
A Sole trader have to pay income tax and National Insurance Contributions (NICs).
They may also be required to pay for Value Added Tax (VAT) if they reach the total annual turnover limit as imposed by HM Revenue and Customs (HMRC).
It’s a known fact that sole traders end up paying more tax than limited liability companies, but there are some ways to trim their tax duties. One of them is by taking advantage of another state pension, aside from NICs, which are pension contributions. Through pension contributions, sole traders can get back the tax they paid up to the full percentage. Making pension contributions is also a great way for them to safeguard their retirement.
Managing self-employed taxes can be very hassling and complex, so it’s a best practice to use eHere is a list of all taxes a sole trader is liable to:
Income Tax
The Income tax rate is paid through annual self-assessment tax return. The overall business profit is worked out by subtracting tax relief such as allowable business expenses and capital allowances from the business’ total annual. The expenses offset against the profits that serve as a tax relief, include but do not limit to the following:
- Stock or materials
- Utility expenses
- Advertising and marketing
- Business or phone bills
- Business travel costs (e.g., fuel & vehicle)
- Rent for business premises
- Other expenses solely for business use
National Insurance Contributions
Aside from income tax bill, you will also need to pay NICs depending on how much you earn. Currently, HMRC requires you to pay the two types of NICs—Class 2 and 4. Class 4 NICs are specifically calculated during the process of your self assessment return, which will be explained in detail below.
VAT and Other Taxes
A Sole trader need to register and pay for VAT when their profits exceed the VAT threshold in any 12-month period of the trade. However, the UK tax authority encourages every sole trader to register for VAT even when their earnings are less than that threshold to help them reclaim the VAT they paid for business expenses. It’s also very crucial when their customers are businesses as it helps them reclaim VATs they obtained from them.
Usually, the annual self-assessment will determine which other taxes a sole trader would pay since it will cover details of their other income, including the money they receive from selling assets, renting out a property, savings, or investments.
When Does a Sole Trader Pay Tax?
Whilst sole traders don’t have to register their businesses as a legal entity to HMRC, as self-employed, they are required to set up as a sole proprietor to obtain their unique tax reference number.
Sole traders will have to pay income tax, NICs, and VAT (if applicable) every tax year of their business and are required to complete self assessment tax return every 31st January.
Upon submitting self assessment return, HMRC will then notify them of the exact amount and date they are going to pay their tax bills. Depending on the taxable income that they declared, they will set the deadline of their payment either by 31st January and also by the end of July if balancing payment on bank account is required.
How Much Tax Does a Sole Trader Pay?
Income Tax
The annual income you receive for a tax year (from 6 April to 5 April the following year) within the personal tax allowance of £12,570 will be tax-free. Above the 2022/23 tax year limit, the income tax rate you pay will be as follows:
| Basic Income | Higher Income | Additional Income |
|---|---|---|
|
£12,571 to £50,270 |
£50,271 to £150,000 |
£150,000 and more |
|
20% |
40% |
45% |
NICs
Sole trading companies pay Class 2 and Class 4 NICs. The threshold for 2022/23 tax year is £6,725. You don’t have to pay NICs if your annual profit is less than this amount. But if your income for the tax year exceeds such an amount, you will pay tax as follows:
| Class 2 NICs | Class 4 NICs | Class 4 NICs |
|---|---|---|
|
Small profits threshold |
Lower profits limit |
Upper profits limit |
|
£6,725 to £9,880 |
£9,881 to £50,270 |
£50,271 and more |
|
£3.15 per week |
10.5% |
3.25% |
HMRC will calculate your NIC dues during the yearly self-assessment return process.
VAT and Other Taxes
When your annual profits exceed £85,000, the standard rate you will pay for VAT is 20%. Some products or services are charged at a reduced rate or zero at a VAT reverse charge. Household fuel tax charge, for example, is at 15%, whilst children’s wardrobe is not charged with VAT at all.
If a sole trader is also a dividend recipient, they pay dividend tax. For the 2022/23 tax year, the dividend threshold is set at £2,000. Any amount above that will be subject to dividend tax. Do you pay corporation tax on dividends? For the limited company, yes, but if the sole trader is a recipient, their dividend taxes are usually considered to have been paid.
Capital Gains Tax
For CGT, the rate will depend on what assets you have disposed of and how much your total annual profits are. Residential properties are taxed either at 18% or 28%; other chargeable assets are charged 10% or 20%. To save up on your CGT responsibilities, be sure to check how to avoid capital gains tax UK.
How To Do a Tax Return as A Sole Trader?
Sole proprietor structure has less paperwork compared to a limited company that has a lot of responsibilities, such as registering with Companies House and waiting for a confirmation statement before they can start their operations.
Whether running a large or small business, sole traders only have to fulfill their annual self assessment returns, which is now made easier as they can simply complete the returns online via HMRC’s self assessment system or self employed accounting software.
How Legend Financial Can Help
So, does a sole trader pay corporation tax? It’s clear by now that they don’t but income tax, NICs, and VAT or CGT instead. HMRC’s online self-assessment may be pretty straightforward, but this can be a complex task, especially if you haven’t organised your financial records.
You don’t have to shoulder sorting out your taxes alone. Legend Financial is here to help you with your accounting and tax liability. We have been providing comprehensive financial information and guidance for a lot of sole trader clients on a daily basis. Reach us today for help!
References
What is Corporation Tax? Guide for small companies. (n.d.). Retrieved from Bytestart: bytestart.co.uk/what-is-corporation-tax
Sole Trader Tax. (15 October 2021). Retrieved from CPD Online College: https://cpdonline.co.uk/knowledge-base/business/sole-trader-tax/
Set up as a sole trader. (n.d.). Retrieved from Gov.Uk: https://www.gov.uk/set-up-sole-trader
Do Sole Traders Pay Corporation Tax? (26 May 2021). Retrieved from FreshBooks: https://www.freshbooks.com/en-gb/hub/taxes/do-sole-traders-pay-corporation-tax
What taxes do small businesses pay? (n.d.). Retrieved from Unbiased: https://www.unbiased.co.uk/discover/tax-business/running-a-business/business-tax
The differences between a Limited Company and a Sole Trader. (n.d.). Retrieved from Companies Made Simple: https://www.companiesmadesimple.com/sole-trader-v-limited-company.html
How to pay yourself as a sole trader and how much to put aside for tax. (9 April 2021). Retrieved from Crunch: https://www.crunch.co.uk/knowledge-becoming-self-employed/pay-yourself-sole-trader-how-much-put-aside-for-tax#:~:text=As%20a%20UK%20sole%20trader%2C%20you%20pay%20taxes%20based%20on,sole%20trader%20business%20expenses%20incurred.
Do I have to pay VAT if I am self-employed? (n.d.). Retrieved from Low Incomes Tax Reform Group: https://www.litrg.org.uk/tax-guides/self-employment/do-i-have-pay-vat-if-i-am-self-employed#:~:text=be%20VAT%2Dregistered.-,What%20rate%20is%20VAT%20charged%20at%3F,the%20reduced%20rate%20of%205%25.
CAPITAL GAINS TAX. (n.d.). Retrieved from Brookson One: https://www.brooksonone.co.uk/knowledge-centre/sole-trader/tax-planning/capital-gains-tax/#:~:text=The%20CGT%20rate%20depends%20on,gains%20from%20other%20chargeable%20assets.
