Small Business Tax

A plain English Limited Company Guide for Small Business'

If you’ve thought about contracting and starting up your own Limited company, which any accountant will tell you is the most tax efficient route possible as it lends itself to good tax planning, but were always worried by how complicated the tax side was, then we hope you’ll find the following Small Business tax guide helpful. We doubt it will answer all your questions but hope it will help fill in a few gaps.

Sadly there’s no getting away from it, tax is quite complicated, however this shouldn’t stop you from forming your own limited company, taking advantage of the tax benefits and pursuing your goal of company ownership.

Limited Company Tax (tax rates based on April 2011)

Whilst discussing Limited company tax it’s best to see the company as one entity and you, an employee and owner of the company, as a separate entity. This may seem strange but it really is the best way to think, and will make it far easier to understand.

Corporation Tax

All limited companies have to pay Corporation Tax on their profits; the current rate for companies’ with profits under £300,000 is 20%.

This means if you invoice your client £100,000 excluding VAT over the year and have expenses which includes any salary you pay yourself of £20,000, you will pay 20% on £80,000. The company’s corporation tax is due nine months and one day after the year end, this is what accountants refer to as the ‘financial year’.

Employer's National Insurance Contributions

Your company will pay 13.8% on any salary you pay yourself over the threshold of £136.01 per week.

If you work through an umbrella company ‘you’ will have to pay employee NI of 12% and employers NI of 13.8%, this means you’ll pay 25.8% on your entire pay less expenses and threshold allowances. 

VAT (Value Added Tax)

As a contractor you’ll more than likely be registered for VAT which is 20% (2011 Rate). You charge this on your invoices and then give the money to HM Revenue and Customs (essentially you act as a tax collector for the government).

Most contractors also apply and register for the Flat Rate VAT Scheme which means you charge out at one rate 20% but then only repay at a lower rate, IT contractors usually use 14.5% (plus you get a first years discount of 1% so will just pay back at 13.5%), with this being paid on the total gross invoice value and you keeping the difference; sadly this then counts as a profit and is taxed along with your corporation tax, but could still add up to thousands of pounds per year which goes towards your overall income for year.

Small Business' Tax – personal taxes  (tax rates based on April 2011)

Income Tax including PAYE

This does get a little complicated due to you taking money from your company both as dividends (as the owner) and as a salary (as employee).

This spans what accountants call the ‘Fiscal tax year’, so 6th April to 5th April and relates purely to your personal worldwide income.

Any income taken as salary beyond your personal tax allowance (£7,475) is taxed at 20% and then after the higher rate threshold (£35,000) will be taxed at 40% and 50% after £150,000.

It is also worth mentioning that once you earn beyond £100,000 your personal allowance will be reduced at a rate of £1 for every £2 of income until it is reduced to zero, so by the time you hit £114,950 your personal allowance will have disappeared, this effectively means that the £14,950 after £100k will have been taxed at 60%.

Special note for dividends - Up to the higher rate threshold (£35,000) the dividends will be subject to nil PAYE Income Tax and nil NI. Anything taken above this will be subject to 25% higher rate dividend tax on the net dividend drawn.

Employee's National Insurance Contribution

Firstly, there is no NI on dividends. You’ll just pay NI on salary which is 12% on anything you earn above £139.01 per week until you reach £817 per week and then you'll pay just 2%.  

PAYE Income tax/NI is, along with VAT, payable quarterly but your accountant will be able to advise you of these crucial dates.

Although not quite rocket science the above is fairly complex, especially as all the allowances, thresholds and rates often change annually.

It simply breaks down as this

Company liabilities

Corporation tax – payable 9 months and 1 day after the year end
VAT – payable quarterly
PAYE/NI – payable quarterly

Personal liabilities

Personal tax (self-assessment) – payable every 31st January, with potential payments on account in January and July (sorry even this sounds complicated).

We hope the above helps, please don't let fear of tax stop you from following your business aims and goals, SJD the UK's largest accountants for contractors support over 10,000 limited company contractors and freelancer's all of whom felt nervous about tax, however with the support of a good specialist accountant there really isn't too much to worry about tax wise as they'll help shoulder the burden.

If you have any questions about contracting or would like further tax and Limited Company advice please contact our New Enquiries Helpdesk on 0500 23411.

Easy Accountancy charge a fixed fee of only £30 VAT a month.

We don’t want our clients to be scared to contact us and potentially lose out on valuable tax saving advice, that's why we only charge a fixed fee of £30 VAT a month. It’s important when you first start out freelancing that you set your business up in the best way possible. As a start up you’ll probably have loads of questions and will really appreciate the fact you can call your accountant as many times as you like without the fear of racking up large bills.