A Guide to Taxes for UK Freelancers

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Freelancers are an important part of the UK economy. As of 2021, there are over 1.9 million freelancers in the UK contributing up to £147 billion to the economy.

The notion of being a freelancer in the UK can be a challenging concept to grasp which can make it hard to understand the income tax implications.

You can be a freelancer, a contractor, a sole trader, or can own a limited company under the umbrella term of being self-employed.

This blog post will focus on understanding tax for freelancers but first, let’s clearly define who qualifies as a freelancer.

Who is a freelancer?

Simply put, a freelancer is someone who works for themselves. They offer services and complete projects on a contract basis for multiple clients. Freelancers can be writers, graphic designers, or other professionals.

Significant revisions to the off-payroll working rules (IR35) were implemented by the UK government on 6th April 2021, impacting certain self-employed individuals and the organizations engaging their services. Also, freelancers in the UK who work for businesses in the European Union are affected by the implications of Brexit.

Freelancers can have different business structures, including:

Sole trader

A sole trader is a self-employed individual who runs their own business. They are personally liable for business debts.

Personal service company (PSC)

This is a limited company set up by a freelancer or contractor. It offers liability protection but may be subject to IR35 tax rules. In a limited company, shareholders and directors are responsible for the amount they invest in the business and their personal assets are generally protected.

However, personal service companies (PSCs) may be subject to IR35 or ‘off-payroll’ rules. These rules aim to prevent tax avoidance by individuals using PSCs to work as ‘disguised’ employees and pay less tax. If a PSC falls under IR35 or ‘off-payroll’ rules, it typically results in higher tax and National Insurance contributions.

Umbrella company worker

A freelancer or contractor employed by an umbrella company. An umbrella company handles the payroll for freelancers or contractors, resulting in higher tax and National Insurance deductions in comparison to a PSC (Personal Service Company).

Understanding self-employment taxes as a freelancer in the UK

When operating as a sole trader, freelancers are liable to pay personal income tax on their trading profits, with rates reaching up to 45% (46% in Scotland).

However, if you choose to operate as a limited company, the company itself must pay a 19% corporation tax on its profits, and you as an individual will also be subject to tax on the amounts you extract from the company.

Here are some key aspects to consider:

Registering as self-employed

If you’re starting your freelance career, you must register as self-employed with HM Revenue and Customs (HMRC) as soon as possible. You can do this online or by contacting HMRC directly.

Registering ensures that you’re recognized as a self-employed individual and will receive the necessary documentation and tax forms.

National Insurance Contributions (NICs)

As a self-employed freelancer, you’ll be liable for paying both Class 2 and Class 4 NICs. Class 2 NICs are a flat-rate weekly contribution, while Class 4 NICs are based on your profits.

These contributions provide entitlement to certain state benefits, such as State Pensions. You must stay updated with your NICs to maintain eligibility for these benefits.

Self-Assessment tax return

You’ll need to file a Self-Assessment tax return with HMRC each tax year, which runs from April 6th to April 5th. This tax return allows you to report your income, and expenses, and calculate the tax you owe. The deadline for filing the return and paying any tax due is January 31st following the end of the tax year.

Allowable Expenses

As a freelancer, you can deduct certain business-related expenses from your taxable income, reducing your overall tax liability. These expenses may include office supplies, travel costs, professional memberships, and marketing expenses. Keeping detailed records of your expenses is crucial to claim these deductions accurately.

Value Added Tax (VAT)

If your annual turnover exceeds the VAT registration threshold (currently £85,000), you must register for VAT. VAT is a consumption tax added to the price of goods and services, and as a VAT-registered freelancer, you’ll need to charge VAT to your clients, file VAT returns, and make VAT payments to HMRC.

Income tax

As a self-employed individual, you’ll be liable for income tax on your profits. The specific rate of income tax you pay depends on your income level and the tax band you fall into.

As of 2023-24 financial year, you can earn up to £12,570 without being subject to income tax. This tax-free threshold, known as the personal allowance, ensures that UK citizens can earn this amount before tax obligations kick in.

However, it’s important to note that the personal allowance varies for individuals with different earnings. For example, someone earning £110,000 annually would have a tax-free personal allowance of up to £7,570 as the personal allowance gradually decreases for every pound earned above £100,000 in a given tax year.

Income tax rates for 2023-24 are as follows:

How to pay taxes as a freelancer in the UK

Let’s say you earn £45,000 per year but also earn an additional £35,000 through freelancing with expenses on the freelance work totalling £5,000, then the profit you are making through freelancing is £30,000.

This will make your total income £75,000 for the tax year and pushes you into the high-rate tax band.

In this case, the first £12,570 of taxable income would be treated as a personal allowance and would be exempted from any tax liabilities. The earnings between £12,571 to £50,270 would be taxed at the basic rate which is 20% and the £50,271 above that would be taxed at the higher rate of 40%.

Because of the complexity of calculating taxes, to ensure that the information that you are sending to HMRC is error-free, it is generally advised to speak with an accountant.

How can you pay less tax as a freelancer in the UK?

As a freelancer in the UK, there are legitimate strategies you can employ to minimize your tax liability while remaining fully compliant with tax laws.

Here are some tips to help you pay less tax:

• Familiarize yourself with the expenses that you can deduct from your taxable income. This includes costs directly related to your freelancing activities, such as office supplies, travel expenses, professional memberships, and software subscriptions.
• Take advantage of tax reliefs available to freelancers. For example, you may be eligible for the Annual Investment Allowance (AIA) for certain business-related investments. Research and consult with a tax professional to identify relevant reliefs that can help minimize your tax liability.
• Contributing to a pension scheme can have tax advantages. As a freelancer, you can make tax-deductible contributions to a personal pension or a self-invested personal pension (SIPP). These contributions can reduce your taxable income, potentially resulting in lower tax liabilities.

How to protect yourself when working as a freelancer

Working as a freelancer offers many advantages, such as flexibility and independence.

However, it’s essential to protect yourself both financially and legally to mitigate potential risks. Here are some important steps to consider:

Contracts and agreements

Always use written contracts or agreements when engaging with clients or entering into any business arrangements. Clearly define the scope of work, payment terms, deliverables, timelines, and any other relevant details. Contracts help establish expectations, protect your rights, and provide a basis for legal recourse if disputes arise.

Set clear payment terms

You should communicate your payment terms to clients from the beginning. Specify the payment schedule, methods of payment, and any late payment penalties. Consider requesting partial or upfront payments for large projects or with new clients to ensure a steady cash flow.

Maintain professional liability insurance

Consider obtaining professional liability insurance (also known as errors and omissions insurance). This insurance protects you if a client claims financial loss due to errors, omissions, or negligence in your work. Insurance coverage can provide peace of mind and protect your financial assets in case of legal claims.

Protect your intellectual property

Understand the ownership and rights associated with your creative work. Consider using contracts or licenses to clearly establish the ownership and permitted use of your intellectual property. If necessary, register trademarks or copyrights to protect your creations from unauthorized use.

Keep accurate records

Maintain detailed and organized financial records, including income, expenses, contracts, invoices, and receipts. Accurate records help with tax compliance, provide evidence in case of disputes, and support your financial stability. Consider using accounting software or engaging an accountant to ensure proper record-keeping.

Maintain a contingency fund

As a freelancer, your income may fluctuate. Establish an emergency fund to cover unexpected expenses or periods of lower income. Having savings in place can help you navigate financial challenges without jeopardizing your personal or business finances.

The Know Your Dosh Personal Tax Estimator

The “Know Your Dosh” Personal Tax Estimator is a valuable tool for planning tax on personal income. This includes potential tax liabilities on personal income, encompassing sole trade income, salary, and dividends where applicable.

With this estimator, you can gain insights and forecasts to better prepare for tax obligations. It serves as a useful resource in assessing and managing personal tax liabilities for a well-informed financial approach.

Try this free calculator here

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