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Once registered, self employed people pay income tax through self assessment instead of the Pay as You Earn (PAYE) system. This article serves as a comprehensive guide on self employed income tax rate and allowances for the previous and current tax years, what allowances self-employed taxpayers may be eligible for, current National Insurance contributions rates, and how to file a self assessment tax return.
What Is Self Employed Income Tax?
Self employed workers, such as a sole trader, company director, or someone in a partnership, pay income tax or corporation tax through self assessment tax return, whilst employees pay income tax and National Insurance contributions (NICs) through PAYE. Employees will have their income tax and National Insurance deducted upfront from their salary payments.
The UK government collects income tax on all taxable turnover, such as dividends interest, trusts and shares earnings, state pension, home rental income, jobs income, and other money-generating sources. How much tax you owe is based on how much you earn, your annual tax free personal allowance, and which among the income tax bands the after-threshold figure belongs to.
In the case of mixed earners, both employed and self employed people pay and file both tax returns. As they are under a job payroll scheme as an employee, they pay tax on some of the money they obtained from their job via PAYE. As self-employed, they also need to pay income tax via annual self assessment tax return depending on how much income exceeded the current yearly profits threshold the government set for that tax year.
This means self employment tax is calculated from the trading profits only, not from the total income made from all sources. The total trading profits deducted with businesses’ overheads and expenses will determine your tax bracket and the income tax you pay.
Self employed people can make use of the HMRC’s calculator tool on their website called “self-employed ready reckoner,” which has two options: one for Scotland and another for Northern Ireland, England, or Wales. HMRC’s tool, however, is only helpful for those with standard annual tax free personal allowance and without other taxable incomes.
When the tax situation is more complex, for example you have tax liabilities for the previous fiscal years, manual calculation would be more reliable in working out the income tax you pay rather than using standard websites or calculator tools. In fact, manual computation of the tax bill and seeking tax advice, in many cases, provide the most accurate result.
Aside from income tax and National Insurance contributions (NICs), self-employed people may also need to pay tax on the following:
- Dividends. Taxpayers will have to pay dividend tax on their dividends interest income. The dividend allowance is the same as the annual income tax rate threshold.
- Capital Gains. Profits made from disposing of a property or asset will be added to the total income (from all money-generating sources) and are subject to capital gains tax.
Previous and Current Self-Employed Income Tax Allowance
| Tax Year | Personal Allowance |
|---|---|
|
2018/19 |
£11,850 |
|
2019/20 |
£12,500 |
|
2020/21 |
£12,500 |
|
2021/22 |
£12,570 |
|
2022/23 |
£12,570 |
|
2023/24 |
£12,570 |
The yearly thresholds would differ if taxpayers claimed other allowances, such as Blind Person or Marriage allowances. If any of these apply to them, they benefit from lower income tax rates and allowances at a higher annual limit. For anyone born prior to 6 April 1948, a different threshold applies.
From 2018 to 2021, the small profits threshold remained at £12,500 until the former chancellor, Jeremy Hunt, announced the changes in income tax rates and allowances. The £12,570 lower profits threshold will remain in place until 2028 or further updates. This means taxpayers will only start paying income tax once their total profits reach between 12,570 and 50,270 pound and onwards.
Kinds of Income Tax Allowances to Claim
In addition to the primary annual personal allowance, self-employed people can also claim any or both of the following tax allowances:
- Trading Allowance. This applies to businesses or those in a partnership that generate profit of £1,000 or less. Self employed people obtain full trading income tax rate relief within this value. Exceeding this amount, they will only receive partial relief.
- Property Allowance. This applies to those who earn profit from their property, such as by renting their garage or driveway.
To reduce tax obligations, taxpayers should make sure to claim every form of allowance they are eligible for. If qualified, they can also claim both. Maximising the use of these benefits can largely reduce much of their tax liabilities, as they deduct allowable business expenses from their taxable incomes.
Allowable trading expenses may be staff wage, accounting fees, employer agencies’ partnership costs, rental content insurance, video, content, newsletter, or other forms of digital advertising and marketing bills, and other expenditures that rise.
Unlike personal allowances, trading and property allowances are claimed in a different way as they are not applied automatically. If taxpayers are eligible for any or both, they will have to claim one of them first. Only then can they get an allowance of £1,000 for every 2 allowances.
It would be a great advantage for the self-employed to seek professional help when they are unsure about how much and how to claim their allowances. Tax advisers have a deeper grasp on UK tax law changes and provide on-point information on all tax accounts and matters.
Previous and Current Self Employed Income Tax Rate
| Tax Brackets | Taxable Income | Tax Rates |
|---|---|---|
|
Basic Rate |
Between £11,851 and £46,351 |
20% |
|
Higher Rate |
Between £46,351 and £150,000 |
40% |
|
Additional Rate |
More than £150,000 |
45% |
| Tax Brackets | Taxable Income | Tax Rates |
|---|---|---|
|
Basic Rate |
Between £12,501 and £50,00 |
20% |
|
Higher Rate |
Between £50,001 and £150,000 |
40% |
|
Additional Rate |
More than £150,000 |
45% |
| Tax Brackets | Taxable Income | Tax Rates |
|---|---|---|
|
Basic Rate |
Between £12,501 and £37,500 |
20% |
|
Higher Rate |
Between £37,501 and £150,000 |
40% |
|
Additional Rate |
More than £150,000 |
45% |
| Tax Brackets | Taxable Income | Tax Rates |
|---|---|---|
|
Basic Rate |
Between 12,571 and 50,270 |
20% |
|
Higher Rate |
Between £50,271 and £150,000 |
40% |
|
Additional Rate |
More than £150,000 |
45% |
| Tax Brackets | Taxable Income | Tax Rates |
|---|---|---|
|
Basic Rate |
Between 12,571 and 50,270 |
20% |
|
Higher Rate |
Between £50,271 and £125,140 |
40% |
|
Additional Rate |
More than £125,140 |
45% |
Current National Insurance Contributions Rates
| Class | Tax Band | Taxable Income | Rate |
|---|---|---|---|
|
Class 2 |
Small Profits |
£6,725 to £9,880 |
3.45 a week |
|
Class 4 |
Lower Profits |
£9,881 to £50,270 |
10.5% |
|
Class 4 |
Upper Profits |
£50,271 and more |
3.25% |
How to File Income Tax Return for the Self-Employed
On or before someone starts earning trading profits, they should report to HMRC and register as self-employed as soon as possible to avoid any penalty. The registration may either be through online, paper tax return form, or commercial software. This is to notify HMRC that they now pay tax via self-assessment tax return.
If it is their first time filing a tax return, they will be designated a unique taxpayer reference (UTR) number, which, in the future, will be required every time they file and pay taxes. They will also be registered with class 2 or class 4 National Insurance, which they will be contributing automatically if their income goes beyond a certain profits threshold but voluntarily if it does not.
How Legend Financial Can Help
References
Income Tax rates and Personal Allowances. (n.d.). Retrieved from gov.uk: https://www.gov.uk/income-tax-rates
Self-employed ready reckoner. (n.d.). Retrieved from gov.uk: http://www.hmrc.gov.uk/tools/sa-ready-reckoner/calculator.htm
Income Tax rates and allowances for current and past years. (n.d.). Retrieved from gov.uk: https://www.gov.uk/government/publications/
rates-and-allowances-income-tax/income-tax-rates-and-allowances-current-and-past
Tax-free allowances on property and trading income. (n.d.). Retrieved from gov.uk: https://www.gov.uk/guidance/tax-free-allowances-on-property-and-trading-income
Renting out a property. (n.d.). Retrieved from litrg.org.uk: https://www.litrg.org.uk/tax-guides/savers-property-owners-and-other-tax-issues/property-income/renting-out-property
