Tax and NI

4. Tax for the Self-employed

4.1 The self-employed pay tax on the profits they make - not on their drawings.

For example, if you make £30,000 profit, you pay income tax on the full £30,000 - even if you have drawn only £10,000 as salary and have retained the other £20,000 in the business.

• Profit is revenue less allowable expenses, excluding your salary. The expenses which are allowable are covered in 6 to 10.
• The same tax bands apply as for employees.

4.2 You usually pay tax on the profit of a 12-month accounting period.

You pay tax on the profit for the accounting period which ends in that tax year.

• Tax is due in two equal instalments, on 31 January (during the tax year) and on 31 July after the end of that tax year.
• The interim amounts payable are based on the previous year's tax liability. If profits are falling, it is possible to reduce the payments.
• A balancing payment is then due on the following 31 January to adjust for the difference between the amounts paid and the tax due as a result of the actual profits.

4.3 A new business can initially be taxed twice on some of the first year's profits, depending on its choice of accounting period.

• 'Overlap relief' may be available to correct the position, but the calculations are complex and there will always be a cashflow cost to the business. Consult your accountant or tax adviser.

4.4 Skilful tax planning can ensure that the self-employed pay their income tax much later than company employees.

• Take the example of a self-employed person with an accounting period which ends on 30 June 2006. This person will pay tax on those profits in part on 31 January 2007 and 31 July 2007 (based on prior year tax liability), and then make a final payment on 31 January 2008, based on actual profits.