A Comprehensive Guide to Tax for Small Businesses

 In Small Business Accounting

Tax for small businesses can be a complicated process to get right. There are so many hoops you have to jump through, forms that need to be filled out and boxes ticked. Plus you have to know which taxes apply to your specific small business, as well as when their deadlines are. 

Failure to submit the correct tax return at the right time can result in your small business receiving a financial penalty from HM Revenue & Customs (HMRC) and ignorance is not an excuse. 

If you are unsure at any stage, always seek advice from a small business accountant, because sometimes rules, allowances and deadlines change. 

Which taxes apply to my small business?

Unfortunately, there is no one set answer to this question. The type of business you run, the size of it, the products or services you sell and how well your small business is performing will all factor into determining which taxes apply for you. 

Income Tax

Income tax is a tax everyone has to pay on their income. 

Income tax is worked out based on the profits that you or your small business has made over the course of the financial year. 

For employees of a business, income tax is collected via Pay As You Earn (PAYE) and is paid directly to HMRC. 

However if you are self-employed you will file your income tax return as self-assessment. You have until the 31st January to file your income tax return with HMRC or face a financial penalty.

As the company director you are responsible for deducting and paying tax on any salary that is drawn from the business. If however you’re a sole trader you will only have to pay income tax on profits above the personal allowance tax threshold, which currently stands at £12,500. 

You don’t pay any tax on your first £1,000 of self-employed income as this is your ‘trading allowance’. 

Your tax rate will depend on your taxable income after you have accounted for all deductible expenses. 

Income Tax BandTaxable IncomeTax Rate
Personal allowanceUp to £12,5000%
Basic Rate£12,500 – £50,00020%
Higher Rate£50,001 – £150,00040%
Additional Rate£150,001+45%

Corporation Tax

Corporation tax is only paid by companies that have incorporated (limited companies), so if you’re a sole trader or a partnership, you don’t need to pay corporation tax. 

Corporation tax is essentially income tax but for your company. It is worked out as a percentage of your business’ profits after you have accounted for things like allowances, tax relief you’re entitled to such as expenses i.e. travel, salaries, office equipment etc. 

Corporation tax, like income tax, is done through self-assessment. You need to work out how much your business owes HMRC and then you file your corporation tax return with HMRC and send over the payment. You have up until 12 months after the end of your financial year to file your corporation tax return. 

Corporation tax used to be tailored to the size of your business’ profits – the more you made, the more corporation tax you had to pay. Now however corporation tax is standardised for everyone at 19%, with that dropping to 17% by 2020. 

One of the things you have to remember with corporation tax is that unlike income tax or VAT, you set your payment deadline date. Plus you have to pay your corporation tax bill BEFORE your file your company tax return at Companies House. 

You have nine months and one day from the end of your accounting year to settle your corporation tax bill. 

As a guide, most businesses choose to select the 31st March as their business year end, meaning you have until 1st January the following year to pay what you owe. 

If you are in your first year of trading as an incorporated business, you may have TWO accounting periods to take into account. 

Also worth mentioning that if your business makes over £1.5m in profit then the process is slightly different in that you will have to pay your corporation tax in instalments.

Even if your business is making a loss, although you won’t owe any corporation tax you will still have to file a corporation tax return declaring that you have made a loss. 

Value Added Tax

As a small business owner you only need to legally register your business for VAT when your turnover is above £85,000. You can register before that if you like, but you will be creating extra hassle for yourself. 

VAT is a tax that is applied to certain products and services that are sold in the UK. Not every item has VAT applied to it, certain things such as children’s clothing, books, and items sold in charity shops are classed as zero rated. Other products and services incur a reduced rate VAT, such as home energy or children’s car seats. 

To see the full list of reduced rate and zero rate goods and services check out gov.uk

VAT Rate% VAT
Standard20%
Reduced rate5%
Zero rate0%

National Insurance

If your small business has employees then you must pay National Insurance contributions (NICs). NICs qualify you for certain benefits such as your state pension or maternity allowance (if you’re self-employed). 

If you have employees, NICs are paid directly to HMRC at the same time that you pay income tax from their salaries. 

For self-employed people there are a few different classes of National Insurance that may apply. To see the current rates for Class 1, 2 and 4, check out gov.uk

National Insurance ClassWho Needs to Pay
Class 1Employees earning more than £166 a week and under State Pension age. These are deducted automatically and paid by your employer when they pay your income tax. This is either on the 22nd of the month (if paid monthly) or 22nd after the quarter (if paid quarterly).
Class 1A or 1BEmployers pay these directly on their employee’s expenses or benefits.
Class 2Self-employed people – you do not have to pay these if you earn less than £6,365 a year (but you can choose to pay voluntary contributions) – paid via self-assessment.
Class 3Voluntary contributions – you can pay these to fill or avoid gaps in your National Insurance record.
Class 4Self-employed people whose profits exceed £8,632 a year – paid via self-assessment.

Business Rates

Any business that is carried out in a non-domestic setting will likely be liable to pay business rates. Eligibility for business rates will depend on the type of business that you have and where you are operating it out of. 

If your small business operates out of your home and you don’t have any customers popping by, you won’t typically be required to pay business rates. If however you have converted part of your domestic property for non-domestic business, then you will probably be required to pay. 

Typically business rates only apply if your small business operates out of a shop or an office. 

Think of business rates like council tax – different businesses will be required to pay different rates. 

There are business rate relief schemes available as well as grants to help you. So check with your local council to see what, if any, you’re entitled to. 

To find out what business rates may apply for your small business, check out gov.uk.

Summary

Not every small business will be required to pay every form of tax. You have to do your homework and understand which taxes apply to your specific business. Because if you fail to file a tax return on time for a tax that applies to your small business, you will be penalised financially. And as mentioned before, HMRC doesn’t take ignorance as a viable excuse.

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