Paying Taxes as a Freelancer: How to Plan Ahead of Taxes

Accounting isn’t always easy and taxes can be quite stressful for most people. Luckily, there are various budgeting strategies and ways to prepare ahead of the self-assessment deadline. Let’s look at how to prepare for paying taxes as a freelancer.

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Paying taxes as a freelancer

Tax liability as a freelancer

Tax is only taken from your profits, not your whole income. If you forget to deduct your expenses, you’ll end up paying too much tax. Remember, rules vary between a sole trader and a limited liability company.

Sole trader taxation

As a sole trader, you are entitled to a personal allowance unless you earn more than £122,000 a year. A personal allowance is the amount of income that isn’t taxed (£12,570). Taxes become progressively higher above this threshold.

National Insurance

National Insurance contributions (NIC) form a part of your tax bill and need to be taken into consideration. Freelancers pay two types of NI:

  • Class 2: a mandatory payment of £3.05 a week if your profits are £6515 or above in a year. You can make voluntary payments if you earn less than this. 
  • Class 4: an additional payment to Class 2 NI if your profits are over £9569 in a year. On profits between £9,569 and £50,270 you pay 9%, and on profits above £50,270 you pay 2%.

Limited liability company taxation

There are greater costs and paperwork involved in running a company. It may be more tax-efficient (after a certain level of profitability), but calculating taxes can be complicated, as you’re liable in two ways:

  • The company’s profits: corporation tax is equal to 19% of profits
  • Payment as an employee of the company: your personal income is taxed the same as a sole trader’s profit. If you also pay yourself a dividend (i.e. a share of profits and retained earnings) of over £5000, additional tax will be applied.

Each month, your personal tax and NIC are deducted from your paycheck. You can make these deductions through the PAYE system and report them back to HMRC

How to prepare for taxes

January 31st is the deadline for filing your taxes. Working last minute can be stressful, so here are some tips to help you prepare ahead of the deadline.

Consult with an accountant if possible

An accounting professional can be a great help when it comes to managing your taxes. Here are some ways an accountant can help reduce your tax bill:

  • Helping you choose the most tax-efficient way to operate your business
  • Giving you advice on the expenses that can be deducted
  • Suggesting methods such as putting away a percentage of your earnings in a pension plan

Record your cashflow

Completing your tax return will be easier if you record your incomes and expenses throughout the year. While bookkeeping services are available at most accounting firms, you may decide to do it yourself. Regardless of the method, your freelance earnings should be kept in a separate account. This allows you to:

  • Stay organised
  • Track your business’ incomes and expenses
  • Categorise income and expenses
  • Upload and store receipts online, reducing paperwork

Accept that your income isn’t completely yours

Some of your earnings go to HMRC. As well as NIC and tax, you could pay for deductions such as:

  • Loan repayments
  • Pension contributions
  • Payroll Giving donations
  • Child maintenance payments

To manage costs, avoid financial surprises, and prepare for your tax bill, you should set money aside. 

How to budget ahead of taxes

Budgeting can be difficult since you can’t make exact calculations until the financial year is over. Despite this, there are a few strategies to help you cover your tax bill. We’ve already covered the first one: having a separate account for your business earnings.

Put aside a percentage of your income

The easiest way to budget is to put aside a percentage of your income each month. By putting money away, you can:

  • Save a good amount each month, even after settling your bill
  • Eliminate guesswork and complex calculations

You can make a more educated estimate of how much you can put aside by using each month’s profits as a benchmark. We understand that profits fluctuate monthly, causing uncertainty for freelancers. This emphasises the importance of budgeting. Having savings aside will help you to manage during months of lower income. You can find more advice on dealing with inconsistent incomes and creating a reasonable budget in our blog.

Pay yourself

Over time, you’ll have a realistic idea of your freelance earnings and expenses. Due to this, you can start paying yourself each month. With a salary, you’ll be giving yourself an income to work and live comfortably with. 

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