When you start a business, you take on a whole host of new responsibilities, including managing your company taxes. It's safe to say that this isn't the most exciting part of running a business, but it is important to take the time to understand the tax process.
The UK has many different taxes that could affect small businesses - some of which you’ll have definitely heard of and some that are more obscure. To make the tax process easier to understand, we explain some of the main taxes you’ll need to take into account as a freelancer or entrepreneur, and how they can be managed with invoicing software.
VAT for income and expenses
Value-added Tax, or VAT, is one of the most well-known taxes and is applied to almost all goods and services in the UK at a standard rate of 20%. As a consumer, you’ll have paid VAT throughout your life - as a freelancer or entrepreneur, you'll need to consider how VAT affects your business.
The first step is working out whether or not you should register for VAT. VAT registration is required for any business with a turnover of £85,000 or more; this means that most freelancers won’t be required to register for VAT, but you can still opt-in if you think this is right for your business. If you do register for VAT, you’ll be responsible for charging, paying, and reporting your taxes.
Any company that is VAT-registered needs to provide documentation of all income and expenses that are eligible for VAT. This means sending and keeping a record of VAT invoices, as well as asking for VAT receipts for any purchases made by your business. You will also need to file VAT Returns with HMRC. When you file a VAT Return, you need to submit a VAT report to HMRC. This needs to be done annually, and the specific steps depend on the method of reporting you choose.
Taxes and payroll: National Insurance and Income Tax
An important part of running a small business is managing payroll. Whether you’re a sole trader or an employer, you’ll need to consider how your staff (including yourself) affect the taxes you manage.
The first main tax associated with payroll is National Insurance, which is a contribution that workers make towards certain state benefits. If you were employed before starting your own business, you’ll have probably paid National Insurance as an employee; however, there are different rules for self-employed freelancers and entrepreneurs.
If you’re self-employed, you will need to pay National Insurance once you make a profit of £6,205 or more - many freelancers and entrepreneurs therefore don’t pay National Insurance for several years. However, compared to the other taxes on this list, the threshold for National Insurance is relatively low; so you should be aware that you might become liable for this tax sooner than others.
A second important tax related to payroll is Income Tax, which is a tax paid on the money earned from employment, running a business, or certain state benefits. The rate you pay increases as you earn more, although most people have an annual, tax-free allowance.
For employees, Income Tax and National Insurance are usually paid directly to the tax authorities through the PAYE system, which is handled by employers. However, if you’re self-employed, you’ll be responsible for paying your own taxes either through PAYE or Self Assessment. Most freelancers and entrepreneurs will pay Income Tax or National Insurance through Self Assessment, but anyone who runs a limited company that pays them a salary is considered an employee and will therefore need to manage their taxes through PAYE.
If you employ other people, you will be responsible for calculating, applying, and paying PAYE for the people on your payroll. This can usually be done online. When managing PAYE, you should take into account every employee’s salary or wages, as well as tips, bonuses, sick pay, or maternity pay.
Taxes and assets: Stamp Duty Land Tax and Capital Gains Tax
Assets are items that add value to a company - including inventory, equipment, land, and intellectual property. There’s a few types of taxes charged on assets, and the taxes you need to consider depends on which types of assets you have, whether you’re making a sale or purchase, and which type of company you’re registered as.
If you sell or pass on a company asset, you might need to pay Capital Gains Tax. Like most other taxes, there’s a tax-free allowance on capital gains. The threshold changes each year but, for the 2018-2019 tax year, the current Capital Gains Tax allowance is £11,700. It’s important to note that Capital Gains Tax only applies to freelancers or entrepreneurs registered as sole traders or partnerships, so if you’re registered as any other kind of business, you would need to follow the rules for Corporation Tax instead (more about this later!).
A major company asset is property. Whether you purchase office space, a workshop, a retail unit, or land, you’ll need to consider how this will be taxed. In England and Northern Ireland, Stamp Duty is applied to the purchase of most business properties. Although you’ll only need to pay Stamp Duty on land and properties worth £150,000 or more, you will still need to submit a tax return for most transactions under this threshold.
Scotland and Wales both have similar taxes on business property - Land and Buildings Transaction Tax (LBTT) and Land Transaction Tax (LTT) respectively. Like Stamp Duty, both of these taxes are linked to the price of the property.
What about Corporation Tax?
Corporation Tax is the tax paid on company profits; the current rate is 19%. Corporation Tax isn’t relevant for everyone; only limited companies, unincorporated associations, or foreign companies with a branch or office in the UK are required to pay Corporation Tax, and these types of companies are also exempt if they have a profit of under £300,000.
This means that most freelancers and entrepreneurs aren’t liable for Corporation Tax. Even though Corporation Tax is unlikely to apply to you, it’s still worth bearing in mind that you will become eligible if your profits reach the £300,000 threshold (however far off this might seem).
How to manage your small business taxes
As you’ve probably noticed, there’s a lot to juggle when you manage your company’s taxes. This might seem a bit overwhelming if you’re new to running a business, but taxes don’t need to be daunting. A lot of countries (including the UK) are moving towards making the tax process digital; many types of taxes can now be handled online, and this is made even easier with invoicing software like Debitoor.
Most types of tax involve some kind of annual tax return. It’s therefore essential that your finances are well-documented with complete records of every eligible transaction. By recording your income and expenses in your accounting software, your data is stored neatly in one place. This makes it easier to access, calculate, and report your taxes at the end of each accounting year.
Debitoor also makes it easy to manage your VAT. If you’re VAT-registered, you can turn on VAT in your account settings, which applies the correct tax rate to each invoice. With Debitoor’s reporting features, you can get an overview of your outstanding or refundable VAT in real time, and create VAT reports that speed up your annual tax returns.