There are ways to avoid the risks of an incorrect tax return – you just need to know how to get it right first time, says Mike Parkes of GoSimpleTax
If you earn more than £1,000 as a sole trader in a given tax year, you will be required to register as self-employed with HMRC. This comes with numerous responsibilities, including filing a Self Assessment tax return.
However, there is vital information you should know before tackling this task. Without a full understanding, you expose yourself to a multitude of risks, including errors, missing deadlines, and potentially paying too much or too little tax, potentially resulting in penalties.
These situations can be avoided if you’re aware of the five most important aspects of a successful sole trader tax return submission.
Get to grips with the basics
You are not expected to know the A-Z of accounting and tax, but you should understand the essentials. This way, you are informed of the specific deadlines, along with which taxes relate to your circumstances.
In terms of due dates, you can either submit the Self Assessment tax return in a paper or online format. For paper submissions, the deadline will be on the 31st October after the tax year has ended. So, for the tax year 2019/20, the paper return deadline is 31st October 2020. If you were to submit electronically, then the deadline is the 31st January after the tax year has ended. In the same example, the due date would be 31st January 2021.
There are various taxes you may need to pay. For the Self Assessment tax return, Income Tax and National Insurance contributions (NICs) are the standard ones.
NICs have two dedicated classes for the self-employed. If you earn more than £6,365, you’ll need to pay Class 2. And if you earn above £8,632, you would also pay Class 4 NIC. The rates for them are as follows:
|Class||Rate for tax year 2019/20|
|Class 2||£3 per week|
|Class 4||9% on profits between £8,632 and £50,000
2% on profits over £50,000
Fully understand Income Tax
Whilst NICs are quite simple to comprehend, there is a lot more to Income Tax. This tax is paid on all your earnings, so if you have income from any other streams, you will need to consider this too. The types of earnings typically include those from:
- Employment and benefits you receive via a PAYE job
- Specific state benefits and pensions
- Rental Income
- Interest on savings that exceed your savings allowance
- Trust income
There are also specific categories of earnings you do not pay Income Tax on. These include your ‘trading allowance’ (the first £1,000 you earn through self-employment), along with returns received via tax-exempt accounts, such as an Individual Savings Account.
Be aware of the tax-free Personal Allowance too. For 2019/20, it is at £12,500. If your earnings exceed £100,000, however, the Personal Allowance is smaller – and beyond £125,000, your personal allowance will be reduced to nil.
You should familiarise yourself with the different tax bands also, as these determine how much tax you will pay on your income. They are as follows:
|Band||Taxable income||Tax rate|
|Basic rate||£12,501 to £50,000||20%|
|Higher rate||£50,001 to £150,000||40%|
If you live in Scotland, whilst the Personal Allowance is of the same amount, the tax rates differ slightly.
Hold on to any related information
Part of your responsibilities as a sole trader necessitates that you maintain accurate records of your income and expenses. Therefore, retaining relevant information is essential.
You should also hold on to any personal records too. If you are registered for VAT or employ people, then the relevant information for these respective areas should additionally be retained.
Whilst it is not a requirement to send any records along with your Self Assessment tax return, it is a requirement to keep this information should HMRC request to see documentary evidence to support the entries on your tax return.
The types of records that come under the ‘evidence’ umbrella include:
- Receipts for all business-related expenses
- Bank statements
- Sales invoices or records of daily/weekly/monthly sales
The way you choose to keep records also affects what you need to pay. There are two methods: cash basis and traditional. For cash basis, you would only record the related information and pay Income Tax on the money that has been received or spent in the given accounting period.
Traditional accounting, however, requires records by the date you were either invoiced or billed. This means you will need to keep additional records so that your tax return will contain accurate information. For example, it will need to state what exactly you are owed and committed to spending.
Claim for allowable expenses and capital expenditures
You will want to make sure that you are claiming for all expenses possible. This will help to reduce your tax liability, provided that they are wholly and solely for business purposes.
There are many different types of expenses you can claim, including costs related to any of the following:
- Office (like stationery)
- Travel (such as fuel, parking, and public transport fares)
- Clothing (uniforms, for example)
- Staffing (like salaries)
- Things bought to sell on (such as stock or raw materials)
- Finances (like insurance and bank charges)
- Business premises (heating, lighting and business rates, for instance)
- Advertising or marketing
- Relevant refresher training courses
If there are any expenses which are classed as being for both business and personal use, then you would only offset the amount which is proportional to the business usage. Where an expenses has been apportioned for business/personal then records should be kept to substantiate this, for example for car expenses a log of business and personal mileage should be kept.
Those that can use traditional accounting are also able to claim on capital allowances. These are products purchased to retain for business use. For example, you could offset:
- Business vehicles
If you use cash basis accounting, you can still buy a car for business purposes and claim only this as a capital allowance.
The circumstances in which you would not be able to offset either expenses or capital allowances is where you have already used the tax-free trading allowance.
There is also the option to claim through simplified expenses which use flat rates, meaning you will not have to work out complicated sums.
Use accounting software
Completing your Self Assessment tax return is much easier if you use dedicated software. These tools calculate your figures for you. This will also result in time savings, as doing your end of year accounts and tax return will be made significantly quicker.
You will have a safe place within the cloud to keep all the relevant information too. Therefore, retaining records will be easy, and you will have all the accurate data to hand when the tax return deadline approaches.
Depending on the tools you use, you will be able to streamline the process of completing and submitting your tax return even further. There are functionalities such as:
- Ability to photograph and upload receipts instantly
- A smartphone app so necessary tasks can be completed on the go
- Tax-saving recommendations
- Direct Self Assessment tax return submission to HMRC
- Expense categorisation
It is also worth using accounting software because it is the future for the tax return. Making Tax Digital (MTD) is due to be rolled out for Income Tax as soon as 2021, and its use will be mandatory.
With these tools, along with the other tips provided here, you will find that you can easily and successfully file your sole trader tax return without issue.
About the author
Mike Parkes is the Technical Director of GoSimpleTax, a software that helps you to submit your Self Assessment and identifies where you can be making tax savings and saving money. He has over 30 years of experience in taxation, working for HMRC for a big portion of his career.
Last updated on 21st October 2019.