Lynne Bell takes a look at some key considerations for individuals considering becoming self-employed.
When someone is thinking of starting a new business, one of the first things they should consider is selecting the appropriate legal status for their venture. Do they want to be self-employed, or form a limited company?
Here we are going to look at the advantages and disadvantages of self-employed status.
Employers’ NICs
Employees are deducted income tax and National Insurance contributions (NICs) from wages. However, the employer generally pays another 13.8% NICs on top of the salary. This can be a sizeable sum if several employees are involved.
If you form a limited company, you are an employee and your company will have to suffer the 13.8% liability on your own wage if it goes above NICs limits.
Some companies can claim employment allowance to help offset the cost of employers’ NICs, but not self-employed individuals with no employees.
A self-employed person does not pay this category of NICs. They normally suffer class 2 NICs, which is a relatively small set weekly amount, and class 4 NICs, the main rate of which (for 2019/20) was 9%.
Tax-free allowances
Everyone has the same basic personal allowances, although these are sometimes adjusted by HMRC for various reasons. This is where a limited company can be more tax-efficient, as it will often be possible to declare dividends, which do not attract NICs for the recipient or the company.
The first £2,000 (which was the allowance in 2019/20) of dividend income is tax-free, effectively increasing your personal allowances to £14,500. The rates of tax you pay on dividends are also lower than the normal tax bands, making them a more tax-efficient way of withdrawing money from a limited company.
This is a potential advantage that self-employed people do not have.
Benefits-in-kind
The term ‘benefit-in-kind’ (BIK) covers several things. Basically, it’s any benefit an employee receives other than money. Some benefits are tax-free, including payments into a pension scheme, certain childcare, and subsidies for public transport that enable an employee to commute.
Taking company cars as an example of a taxable BIK, the tax charge only applies if the vehicle is available for private use. The tax due depends on the value of the car, its carbon dioxide emissions, and whether it uses an alternative fuel, such as electricity. The tax an employee suffers on a company car can be significant. From the employer’s perspective, company cars made available for private use generally attract Class 1A NICs (at 13.8% for 2019/20).
A self-employed person will be able to run a vehicle through their business and disallow a percentage for private use or claim a fixed rate allowance for business mileage.
Practical tip
As with everything in life, personal circumstances come into play when starting a business. The best way forward is to talk to a tax adviser for advice on which would be the best legal status for your business.
Many of the pros and cons of being self-employed are not tax-related; remember to consider both tax and non-tax issues.
