Whether you’re running a limited company or operating as a sole trader, one thing’s certain - you’ll have to pay your taxes. Instead of dreading the tax bill, plan ahead. Setting money aside will get you a long way. If your business is incorporated you should be saving for corporation tax, but if you’re a sole trader you should be saving for self-employment taxes.
Here, we’ll go through both types of taxes and advise on how much you should be setting aside for your tax bill.
How much should I save to pay my corporation tax?
From 1 April 2023, the amount of corporation tax you pay will be dependent on your profits. The main rate is 25% and is applicable to companies with taxable profits of £250,000 or more. The small profits rate is 19% and is applicable to companies with taxable profits of £50,000 or less.
Companies with profits between £50,000 and £250,000 will be subject to a tapered rate. If you’re keeping your accounts up to date, then you’ll be able to have a rough idea of what you should be putting away each month, ready to pay HMRC nine months after the year end. Corporation tax should always be set aside before you take any dividends.
There are differences between taxable profits and accounting profits, so this is only approximate but, if you expect your business to make a profit before tax of £50,000 or less, then setting aside 19% of your expected accounting profit over the course of a year should be sufficient. If you expect your business to make a profit of £250,000 or more, then you should use a rate of 25% instead. If your expected profit falls between £50,000 and £250,000, you should also use a rate of 25%, however, you will be able to reduce the amount of tax you owe by something called marginal relief. HMRC have a handy free to use calculator to help you work out what level of marginal relief might apply to your business.
Remember this is just a rule of thumb. If your accountant prepares your statutory accounts straight after the year ends, you’ll have more time to top up any shortfall or to spend any surplus.
One way of setting the money aside for your taxes is to create a dedicated Space within the Starling app. The Spaces feature also lets you attach a photo so you can get a visual on each Space created. Another option is to pay it across to HMRC early and earn a little interest from them.
Don’t forget that anybody receiving dividends will need to save the personal tax due on this income.
How much should I save for my self-employment taxes?
This is more complicated as there are different rates of tax at different tiers from 0% to 45% (to 47% in Scotland). National insurance is also payable and has different rates and tiers.
Fortunately, the Starling Business Toolkit has an online calculator to help you work out the approximate tax charge for the year. HMRC has one too.
A calculator gives an estimate rather than an absolute figure because if you have other income such as employment/dividends which are using your personal allowance then this may push your self-employment income into a higher tax tier.
Payments on account
Most self-employed people are required to make tax payments on account on 31 January and 31 July. If this is your first year of self-employment you may also be required to pay 50% of next year’s tax on account in addition to the tax due for your first year. Let’s break it down:
If your first year of trading is April 2021 - March 2022 and you make £50,000 taxable profit, your 2021/22 tax and NI for the year will be £11,975.80 (according to the HMRC calculator) which you will be required to pay on or before 31 January 2023.
An extra 50% (£5,987.90) also due on 31 January 2023 towards your 2022/23 tax bill.
A further 50% as the second payment on account on 31 July 2023.
Don’t worry, these “extra” payments on account will reduce the amount you need to pay 31 January 2024, but it often comes as a shock in the first year when you’ve been saving diligently and your tax payment is 50% higher than expected. Here’s how it would look for the second year:
If in your second year of trading you make £60,000 profit then there will be £16,147 of tax to pay, minus the two payments on account already made, so £16,147 - £5,987.90 - £5,987.90 = £4,171.29 top up tax to pay.
An extra 50% of £16,147 as a payment on account for the following year’s tax.
If all this sounds rather complicated then a simple rule of thumb is to save 1/3 of your profits towards your tax bill and to ask your accountant to prepare your tax return as soon as possible after 5 April. This way you will have the accurate tax figure long before you need to pay.
The other advantage of completing your tax return promptly is that you can apply to reduce the July payment on account if you owe less tax than the previous year.
There are penalties due for late submission of tax returns and interest due on late payments of tax. Another reason to keep your financial affairs up to date and to save towards your tax bill.