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Becoming a sole trader is the simplest way in which you can trade.

The first thing you have to do is register as self employed with Her Majesty’s Revenue and Customs (HMRC). You can do this by going online and filling in the ‘Becoming self-employed and registering for National Insurance contributions and/or tax‘ form, or by completing a CWF1 form within three months of setting up. This enables HMRC to send your quarterly bills for what is known as ‘Class 2’ National Insurance, which will ensure that your state pension is not adversely affected in any way in the future.

As a sole trader you will need to do a number of things:

  • Keep all of your invoices to clients and any receipts for business expenses for six years.
  • Keep a full record of the money you have earned each year, and all business expenses. It is a good idea to do this from day one anyway as you will need these figures for your end of year accounts.
  • Complete a Personal Tax Return which declares your profit for the tax year which ends at the 5th April.
  • Pay your own Self Assessment Tax and Class 4 National Insurance contributions.

The Basics

Registering Your Business Name
As a sole trader you do not have to register your business name in the same way as you would if you were setting up a limited company. This means that technically you can choose almost any name you like. But, if you do want to register your company name as a limited company in the future, you need to mindful that this could already be the name of a registered limited company. You can either trade as yourself, or choose a company name. The key thing to remember is to include both of these details on any official paperwork such as invoices and letters.

There are some restrictions on sole trader names, such as not being able to include ‘limited’, ‘Ltd’, ‘limited liability partnership’, ‘LLP’, ‘public limited company’ or ‘plc’ within the name. They also can’t be offensive, or be the same as an existing trademark. Your name also can’t contain a ‘sensitive’ word or expression, or suggest a connection with government or local authorities, unless you get permission.

Setting up a Business Bank Account
You do not have to set up a business bank account, but most sole traders choose to do so. It is a good idea to keep your personal and your business finances separate, as it simplifies everything and makes it clearer to see what funds are where.

Register for National Insurance
Once you have set up as a sole trader, whether full or part time, and have let HMRC know by completing the relevant form, they will then send you a quarterly bill for Class 2 National Insurance. This is a basic payment which ensures that you pay enough to cover your future state pension requirements. All additional National Insurance payments (Class 4) are calculated by your accountant when your end of year figures are completed, and the amount owed is included in your tax bill.

If you have income from more than one job – i.e. you are freelancing whilst still in permanent employment, you should take care to ensure you are not paying more in NI contributions than you need to.

You do not need to register for VAT until your turnover has reached the current threshold, which is £85,000 in 2019, but you may decide to do so anyway. VAT registered businesses effectively collect tax on behalf of HMRC by charging their customers VAT, but they can also claim back VAT on any purchases they make.
The Flat Rate VAT scheme is a simpler way of dealing with VAT and could help you to save money.
If you are registered for VAT you will need to complete a VAT return and keep records to show everything you include if needed.

Flat Rate VAT
Instead of registering for the standard VAT scheme as outlined above, it may be more beneficial for you to register for the Flat Rate VAT scheme. With this, you charge your clients at the standard rate of VAT (20%) and pay HMRC at a lower rate of the gross amount. Different company types have different rates and you would need to check what your rate should be before deciding if this option is for you.

Below is an example for a sole trader whose Flat Rate VAT should be 16.5%, who is in their first year of trading and therefore getting a 1% discount for that first year. This is the rate for limited cost traders and your accountant will be able to advice which rate applies to you.

Amount you invoiced = £50,000 plus 20% VAT (£10,000)
Total amount received = £60,000
VAT paid to HMRC = £60,000 x 15.5% = £9,300

Note here that you calculate the 15.5% on the £60,000 (VAT-inclusive figure) not the £50,000 (VAT-exclusive) figure.

The difference between the VAT invoiced (£10,000) and the flat rate paid back to HMRC (£9,300) is yours to keep as profit – £10,000 less £9,300 = £700. But bear in mind you will be taxed on this as additional income.

The reason for the saving to you is that the Flat Rate scheme simplifies VAT administration for HMRC, so the financial benefit is passed on. The rate you pay will vary depending on your business type. When you register for VAT this will be assessed and agreed up front. Ideally you should speak to an accountant before deciding if you should register for VAT, and if so, which scheme you should use.

Making sure you pay your tax bill
At the end of the tax year (5th April) you will need to provide your accountant with a full set of income and expenditure figures. From these, they will be able to work out your tax liability and tell you what your payments on account will be for the following year. You will still need to fill in a normal personal tax return though, and the timescale for completion of this are the same as for an individual – but the sooner you do it after 5th April, the sooner you will have an exact tax liability figure for the following year.

In some cases, you will need to pay tax twice a year, on 31st January and 31st July, via what is known as ‘payments on account’. Your accountant will be able to advise on this.

It is often said that, as a general rule of thumb, if you put 30% of your earnings to one side this should cover you for tax and National Insurance. This can be hugely misleading and actually your tax and National Insurance costs could be much higher than this, especially if you are a high earner and in your first year making payments on account. Don’t make the mistake of not putting anything aside, as you will be in for a shock when the bill arrives.

Claiming for Expenses
Basically, anything which is a business cost is tax deductible. For example:

  • Stationery
  • IT equipment
  • Premises rental
  • Internet access
  • Business phone bills
  • Travel to customer premises – e.g. train ticket
  • Motor expenses – if you use your vehicle for both personal and business use then you simply reclaim the cost that relates to your business usage

Mortgages for Sole Traders
In the past, sole traders have typically faced significant difficulties when it came to applying for mortgages. However, with time, mortgage lenders have become somewhat more relaxed about granting mortgages for sole traders. Most mortgage brokers charge a fee for their services which can be as much as 1-2 % of the loan.

Sole Trader Insurances

This may or may not be relevant to you, depending on what type of sole trader you are. There are many different types of insurance which you might want to consider, the most vital being professional indemnity and public liability insurance. On top of this, you may also want to think about some type of insurance to cover you for lost earnings if you cannot work through illness or injury. Sole traders have no sick pay to fall back on!

In general, insurance policies of this type are far less expensive than you might expect, although costs do depend on individual circumstances, specifically the annual turnover of your company and the nature of your business.

How can Easy Accountancy help you?

Using an accountant will ensure that you do not put yourself at risk of incurring the various HMRC penalties and end up having to pay interest that is charged for late registration, late submission of tax returns and late payments of tax.

The Construction Industry Scheme (CIS) 

As a self-employed builder, you’ll want to join the Construction Industry Scheme (CIS). The CIS is a scheme brought in by HMRC to reduce tax evasion in the construction industry and to protect builders from false employment. The scheme works as a flat rate 20% tax deduction. If you’re a subcontractor who does building work for a contractor, you should be registered with the CIS, otherwise the deduction is 30%.

CIS Tax Rebates

It’s very likely that as a member of the Construction Industry Scheme you will overpay on tax over the course of the year as a result of the 20% flat rate tax deduction. Luckily, you can claim this back as a tax rebate at the end of the tax year.

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