The taxes you’ll need to pay as a small business owner will largely depend on your company structure and whether you’re a sole trader, limited company or partnership:

  • Sole traders. Sole traders are individuals, like freelancers or contractors, and their business does not operate as a separate legal entity.
  • Limited companies. Limited companies are almost the exact opposite of sole traders as these businesses operate as separate legal entities to their owners. You can still be considered a ‘one-person band’ and have a limited company. Often, sole traders are advised to switch over to the limited company route when their revenue reaches a certain level.
  • Partnerships. Partnerships are businesses set up by two or more people. These people are responsible for managing the business and its finances.

Regardless of the type of tax you need to pay, it’s essential to submit your tax return on time and pay before the deadline. You don’t want to get caught out or end up with a penalty from HMRC for not paying.

Keep reading to learn more about some of the most common types of tax for small businesses and sole traders, including:

  • Income tax
  • Dividend tax
  • National Insurance
  • VAT
  • Corporation tax

Income tax

Sole traders,company directors of limited companies and partners of partnerships have to pay income tax. 

Income tax is essentially the tax paid on income you receive as an individual. For sole traders, this will be based on the profits your business generates, while for company directors, this will be based on your earnings as an individual, usually made up of your salary and/or dividends. 

Income tax is usually accounted for by submitting a self-assessment tax return at the end of every fiscal year. Company directors will only need to pay additional income tax on money taken from their business, that has not already been accurately accounted for on payroll and taxed via PAYE.

If you have to submit a self-assessment tax return, you’ll need to make the submission and pay any subsequent tax liability by 31st January of the year following the tax-year-end.

How much income tax you’ll need to pay

How much income tax you’ll need to pay will depend on how much you earn after the tax-free allowance of £12,570. Additional earnings like savings interest or capital gains will also account for your income and could push you into a higher tax bracket.

  • Basic rate – 20%
  • Higher rate – 40%
  • Additional rate – 45%

Learn more about how much income tax you’ll need to pay here.

Tax on Dividends

If you pay yourself in dividends, you may also have to pay a specific rate of tax on the dividends derived. Dividends are payments made to shareholders of a company, such as investors or business owners.

You can earn some dividend income every year without paying tax. The current dividend allowance is £2,000, and anything over this limit and outside your personal income allowance (see above) is subject to tax. How much you’ll need to pay will depend on your tax bracket. 

You can also use your personal income tax allowance towards this amount if you only get paid in dividends. So, theoretically, in some cases you could earn £14,500 in dividends before you need to pay tax (£12,500 personal allowance + £2,000 dividend allowance).

How much dividend tax you need to pay

How much dividend tax you’ll need to pay will depend on your income tax band:

  • Basic rate – 7.5%
  • Higher rate – 32.5%
  • Additional rate – 38.1%

You need to report your dividend income on your self-assessment tax return. The liability itself is payable as part of the self-assessment bill due to HMRC, alongside any income tax and NI due from salary earnings.

National Insurance

Alongside your income tax, you’ll also need to pay National Insurance. While National Insurance isn’t strictly a tax, it still needs to be considered when setting your budget as you’ll need to pay it each year. National Insurance feeds into your pension and pays for public services like the NHS.

Sole traders will need to pay two kinds of National Insurance.

Class 2 National Insurance

All sole traders who earn more than £6,515 (small profits threshold) must pay Class 2 National Insurance. Class 2 National Insurance is £3.05 per week. If you earn less than the threshold, you can voluntarily pay Class 2 National Insurance to protect your entitlement to State Pension and other benefits.

Class 4 National Insurance

Sole traders, who earn between £9,569 and £50,270, also need to pay Class 4 National Insurance at 9%. You’re charged an additional 2% on any profits over £50,270.

Class 1 National Insurance

If you have a limited company and are paid through the payroll, you’ll need to deduct Class 1 employee’s National Insurance from your wages and pay that to HMRC. Your company will also need to pay Class 1 employer’s National Insurance for any amount over the employment allowance. 

VAT

All companies earning over the annual VAT threshold of £85,000 will need to register and pay VAT. VAT is typically charged to your customers. You then deduct any VAT you pay towards suppliers and pay the remainder to HMRC.

Typically VAT is charged at 20%, but some items only have 5% or 0% VAT. How you charge VAT will also differ for international payments.

Corporation tax

Limited companies will also need to pay corporation tax on the company’s profits during the last financial year. While companies don’t get an equivalent of a personal allowance, they only have to pay tax on profits (i.e., the amount your company makes after deducting expenses). As such, you’ll need to pay corporation tax unless your company makes a loss.

Corporation tax is currently set at 19% and is typically due for payment within nine months and one day after your accounting year ends. Sole traders do not have to pay corporation tax.

How Countingup can help

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