Leaving the world of employment and stepping out on your own as an independent contractor is both exhilarating and terrifying. One of the biggest challenges you’ll face initially is getting your head around what taxes you need to pay.
We always recommend that contractors engage with an experienced contractor accountant (like ourselves for instance!) but you shouldn’t solely rely on your accountant. It’s your responsibility to understand what taxes you should be paying and the deadline for doing so.
As a contractor, you’re responsible for paying tax on any profits the company makes and also paying tax on any income you take from the company. To make this easier to understand, here is a breakdown of the taxes you may have to pay to HMRC as a contractor working through a limited company:
Corporation Tax is the tax that the company pays on any profit it makes. The current rate (2019/20 tax year) for profits below £300,000 is 19%. This will fall to 17% in the tax year 2020/21.
You need to complete and file a Corporation Tax Return (CT6000) and pay any monies owed nine months and one day after the end of your accounting period for the previous financial year.
PAYE & National Insurance Contributions (NIC)
As a contractor working through a limited company, it’s important to understand that you are an employer. If you pay yourself or any other employees a salary, then Income Tax and Class 1 NIC must be collected at source and paid to HMRC via payroll on either a monthly or yearly basis. For 2019/20, Employers NIC is payable on salaries above £166 per week at a rate of 13.8%.
Even if the salary doesn’t exceed the National Insurance Lower Earnings Limit (LEL) you must still notify HMRC that no tax is due for that period.
Companies whose turnover exceeds the VAT threshold (£85,000 for tax year 2019/20) in any twelve-month period you must register for VAT and pay any monies owed. Even if you believe your turnover won’t go above this threshold in certain circumstances there are advantages for voluntarily becoming VAT registered.
The standard rate of VAT which is applied to goods and services is 20%.
If your contract places you outside of IR35 you are responsible for paying tax on any income you receive which is above your personal allowance threshold (£12,500 for tax year 2019/20). The different tax bands are:
|Tax Band||Taxable Income||Tax Rate|
|Basic||£12,501 – £50,000||20%|
|Higher||£50,001 – £150,000||40%|
You will be required to complete a Self-Assessment Tax Return and pay any money owed by 31st January each year. Failure to comply with this deadline could mean you’ll be fined and possibly have to pay interest on the money which is outstanding. You will also be required to pay two payments on account. The first payment is also due on 31st January and the second due on 31st July.
As an employee of a limited company, you are also liable for paying Employees Class 1 NIC. For the current tax year (2019/20) this is 12% on earnings between £166 and £962 per week. Income above £962 is taxed at 2%.
If you are contracting outside of IR35, you will probably draw most of your money from the limited company via dividends. Our article, ‘Salaries and Dividends – how to take the most out of your limited company’, explains dividend tax in further detail.
For further guidance on any of the points mentioned above, please give us a call on 01962 867550, or send one of our Directors a message via our website.