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A Tax Guide for Online Business – How to Maximize Profits Through Tax Strategy (UK Tax Guide 2020)

If you’re from the UK and are new to the realm of online business, you might be wondering the best way to set up and run your new business so that you can maximise profits.

It can be confusing trying to navigate through all of the information out there. So we have compiled all of the most useful information concerning taxing yourself as a freelancer, and how to tax yourself when you make money online. 

We will go through the main types of ways you can register your business and the different implications of each choice for taxes. 

There are two main options available to you.

Depending on how you make money online, there are two main options you should consider, which are:
  • Limited Company
  • Sole Trader

Sole Trader

When you register as a Sole Trader, it means you’re self-employed. Registering as a Sole Trader is a form of self-employment. This is the simplest way in which you can trade. You are obliged to keep all your invoices and receipts for 6 years and keep a record of the money you have earned and the money you have spent on your business. At the end of the tax year (5th April) you need to complete a Personal Tax Return on which you will declare to the Revenue this income and expenses.

Visit gov.co.uk to find out how to register as a sole trader.

Key Points

  • Lower/No accounting costs as you do it yourself
  • Privacy – not obligated to disclose financial performance publicly 
  • Unlimited liability – if the company incurs any debts they are YOUR debt,
  • Higher tax bill – sole traders pay 20-45% Income Tax on profits.
  • Becomes tax-inefficient once your combined personal income from all sources reaches around £30,000 per year, and once it exceeds £50,000, you’ll become a higher rate taxpayer and will have to start paying 40% tax on personal income above that amount
  • Selling as a sole trader will result in all profits being treated as personal income, subject to Income Tax rates and NIC. 

Taxes

When you are self-employed, you’re responsible for paying your own self-assessment tax and National Insurance contributions. Keeping full and accurate records from the start will make it easier to work these out. 

After your first year in business, the tax you have to pay will be based on your profits for the previous tax year. A tax year runs from 6 April to 5 April.

So if self-assessment applies to you, you must send in a tax return each year showing details of your income, gains, reliefs and allowances. You can also work out your tax bill. The self-assessment deadline is 31st January.

It might be a good idea to use an accountant to help you. Whilst they can be expensive, a good accountant will end up saving you far more than they cost you.

Limited Company

The vast majority of people who want to build an online business should work through their own Limited Company. You can have multiple income streams running through your Limited Company, so it is a benefit to you if you want to get involved in different aspects of online business. Say for example you want to begin freelancing, but also set up an Amazon FBA business, you would be able to do so under the same business.

Key Points

  • Limited liability – you only risk what you put into the company
  • Takes 10 minutes and costs £0 to set up a company, as long as you set up a business bank account, or £13 by itself
  • Limited companies pay 19% Corporation Tax on ALL profits (UK)
  • You can sell the company later down the line
  • Generally viewed as more credible (with customers & banks)
  • Company information is public
  • More complicated to account for, you may need the help of a professional

Taxes

The main difference between a Sole Trader and LTD Company is the fact that you can’t simply take money out of your LTD company. The most tax-efficient way you can pay yourself is by taking a combination of salary and dividends from your limited company. The salary will be paid to you as a director, in the same way as a regular employee. It’s up to you how much you decide to pay yourself, but by paying yourself under the tax-free threshold means you pay 0% on earnings up that amount. For 2020-2021, the tax-free threshold is £12,500, but it changes slightly every year. On top of this, you can pay yourself in dividends, which are taxed at a lower rate. With dividends, the first £2000 is tax-free because of the standard dividends allowance. After that, the Basic rate from £14,501 to £50,000 is taxed at 7.5%. 

Company set-up can be done online or you can apply for a limited company direct from Companies House (but this will take longer). Some accountants or banks will set up your company for free on condition that you sign up as a client. I used Tide to set up my own Limited Company, which is free when setting up a business bank account at the same time. 

Setting up a limited company means that you are running your own business and will have complete control. You will be the company director, operate the company bank account, and be responsible for the affairs of the company. 

Running your own limited company is the most tax-efficient way of working as you keep more of your income. Keeping complete financial and administrative control ensures your money is not risked with any third-party administrator. 

There are of course more responsibilities in terms of paperwork and deadlines, but when it gets to a point where it is too much for you to handle, you can always hire an accountant.

VAT

If your sales exceed a certain figure you need to register for VAT. For the 2020/21 tax year, the VAT registration threshold is set at £85,000, but can change each year. It’s calculated on a rolling basis, so you’ll need to monitor your taxable turnover for a rolling 12 month period, not just in the current tax year, your last financial year or the calendar year. If the total of your turnover over the last 12 months exceeds £85,000 at any point, you’ll need to register for VAT. You must register within 30 days of the end of the month in which you exceed the registration threshold, so it’s important to keep a close eye on your turnover on at least a monthly basis.

Companies House

As part of your responsibilities, you need to notify Companies House of any changes to your company, such as change of registered address or change of Directory/Secretary particulars. Alternatively, you can do this direct with Companies House through Web filing. Their system will enable you to file changes to your company information online, as a new user you will need to apply for authentication codes first of all.

You will also need to complete an Annual Return. (This form comes from Companies House and asks for details of directors, secretary, address, shareholdings and trading activities – completed once a year).

HMRC

Various forms will need completing throughout the year, all of which your accountant will help you with. 

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