If you are a sole trader, you can simply take money from your business bank account to pay yourself as a sole trader (we strongly recommend that you use a separate business bank account for your sole trader finances). And you need to make sure that you keep a record of these drawings, along with any other incomings and outgoings.
Don’t forget though, you need to put some money aside to pay any tax you owe. It should be easily accessible, but you could always put it into a savings account to earn interest until you pay it to the taxman.
As a sole trader, you’re taxed on the profits that your business makes through your annual Self Assessment tax return. Essentially, your profit is the income that your business receives, minus the allowable sole trader business expenses incurred. These expenses must be purely for business, and must not include any personal expenditure. Obviously, the higher the amount of profit you report, the more you’ll earn and the greater your tax liability will be.
We recommend you set aside the following amounts from your regular drawings to settle your Income Tax and National Insurance liabilities each year:
Profits per annum % set aside for tax up to £50,000 25%, up to £100,000 40%, between £100,000 and £150,000 45%, over £150,000 45%.
- But isn’t the money in the business all mine?
When you’re a sole trader, as far as the law is concerned, there’s no legal difference between you and your business. You receive the income and pay the expenses, including the tax liability which you must pay as an individual. This can be tricky to manage because there can be a time lag between receiving income from your customers and paying the personal tax you owe on your business profit.
- What happens if I also have earnings from employment or dividends?
If you have income from employment as well as your self-employed income, you’ll need to declare it on your annual Self Assessment tax return. Your employer should have deducted the Income Tax and National Insurance due through the Pay As You Earn (PAYE) scheme. You can see this information on Form P60, which your employer must give you at the end of the tax year. You include the Income Tax deducted by your employer on your Self Assessment for the same tax year and HMRC will calculate any additional Income Tax or Self-Employed National Insurance due. Similarly, if you receive any dividends from a company or other income (such as from property), you must include these on your Self Assessment and HMRC will calculate the tax you owe.
- How is my profit reported to HMRC and how do I pay any tax due?
Your profits are reported to HMRC each tax year via your Self Assessment Tax Return. Your Income Tax and NICs (National Insurance Contributions) calculation will highlight how much you’ll be paying on your final tax bill. Your Self Assessment must be filed and all taxes you owe must be paid before the 31st of January each year. Otherwise, HMRC will fine you, with penalties starting from £100. If your tax bill is more than £1,000 for the year, you’ll be required to make a Payment on Account. This is HMRC’s way of ensuring tax is paid regularly and it goes towards your next Self Assessment.
There are two payments made towards the Payment on Account:
The first must be made by 31st January and the second is due on or before the 31st July each year.
If you believe that you won’t have as much sole trade profit in the next tax year, you should speak to HMRC (or your accountant) and you may be able to reduce your Payment on Account to HMRC.
Even though things are slightly simpler for a sole trader than for a limited company, you might still find it’s easier to use online accounting software to keep track of all this and prepare and file your Self Assessment.
Whether you are just starting your self-employment journey or an old hand ready to take your business structure to the next level, at DNA Accountants we are happy to lend a helping hand.