Tax tips for UK contractors is one of my best articles up to now, and it has lots of helpful tips. When you are a contractor, life can be a challenge each day. This guide can be handy, and the tips below show how you can work and operate on an efficient basis when you are running your own company and save tax along the way.
I also have a first timer’s guide to contracting in the UK which gives a full overview of what to consider when you start out.
Tax tips for UK contractors -tax tips for that cover salary, dividends, and tax allowances
Save tax by paying yourself a tax-efficient mix of dividends and salary
When you are a director of your own company, you can choose what salary to pay yourself.
In 2021/22, every individual has a personal allowance of £12,570. You also have a dividend allowance of £2,000. Both of these allowances fall within the amount of income that is taxable at Basic Rate tax. In 2021/22, this is gross income up to £50,270. In 2020/21, this was £50,000.
A gross salary of £797 per month equates to £9,564 per annum. This level of pay is enough to count as a `qualifying year’ for state pension purposes. Individuals now need to attain 35 `qualifying years’ during their working life to qualify for the full state pension when they retire.
Dividends that fall within your basic tax rate are taxable at 7.5%.
To be as tax efficient as possible, you may decide to take a gross salary of £9,564 per annum. You can then take the rest of your income as dividends.
If you are earning enough to take a gross income of £50,270 from your company and your only income is salary and dividends from your own company, the tax payable under the above example via your Self Assessment Tax Return would be £2,677.
If you do have other income, you would need to look at your overall picture.
You can discuss with your accountant what is the most tax-efficient mix you should take.
Minimise your National Insurance (NI) contributions
Salaries incur National Insurance, and the higher your salary is, the more NI you and your company will pay. If you pay yourself on a tax-efficient basis and take a salary as in the example in the above point, you will minimise the NI that you incur. You could then take the rest of your income as dividends.
Being aware of how your tax bands and allowances work
Please take note. You do not need to take all of the dividends that are available in the year that you earn them. The profit in a company is taxable in the year that the business earns it. Any post-tax income that you do not pay as dividends is carried forward and is payable in a future year. Finally, company income is not taxed twice and is only taxable in the year that the business earns it.
If you draw all of the dividends available out, you may incur higher rates tax. The rates payable if you do are 32.5% on gross income above £50,270 and 38.1% on gross income above £150,000.
Do not draw more dividends than you are legally allowed to take
When you run your own company, the company, just like you, has its tax bills. UK companies pay Corporation Tax (CT). Your business also has other taxes which are:
You should also make sure that you only draw out amounts as dividends after allowing for your company’s tax bills.
If you draw more than is allowed the surplus over profit are illegal dividends, your dividends would need to be restricted. In turn, this would create an overdrawn director’s loan account. This loan can then result in extra tax to pay, depending on how high the borrowing is and how long it is left owing.
Tax tips for UK contractors -tax tips that cover VAT…..
Save tax by operating under the `normal’ VAT scheme
In recent times, the VAT Flat Rate scheme was more tax advantageous. However, the government changed the rules in April 2017. Most contractors now pay over a rate of 16.5% Flat Rate VAT on their gross income. The result of this equates to an actual VAT rate of 19.8% on the net. This % is comparable to 20% VAT that they charge -an actual saving of £20 per £10,000 invoiced.
If you operate under the standard VAT scheme, you can reclaim the VAT on your expenses. For most contractors, this should not be a complicated job. It does involve a little bit more work under the standard VAT scheme; however, in most cases, you will be better off or indeed quite a bit better off when you operate under this scheme.
Tax tips for UK contractors -tax tips that cover other areas
Save tax by claiming tax relief on all genuine business expenses
One of the key tax tips for UK contractors, is if you claim for all of the business expenses that you are legally allowed to, this will help minimise how much CT your company pays.
Make sure that you pick up any business expenses that you incur. Your company can repay these to you. Some contractors do not do this. You should do; otherwise, you are paying for these out of your post-tax income.
Besides usual business trading expenses, where you meet certain criteria you can claim for professional subscriptions and company donations. In addition and again after meeting certain criteria you may be able to claim for business clothing and business gifts.
With all business expenses, you should ensure you collect and save receipts. The receipt can be either a paper receipt or an electronic one (or a mix of these methods), and they are proof that you incur each expense.
Company car or private car?
In most cases, you are more tax-efficient to keep your car as a private vehicle and claim mileage at HMRC’s allowed rates.
Most vehicles, if you run them through your company, will cost a fair amount in tax on the benefits in kind. These usually are more than the CT that you will save on the car cost and running costs. If you have a hybrid or electric vehicle, you may be better off running a company car.
There are tax breaks for hybrid vehicles. Therefore, it’s certainly worth considering one of these vehicles if you plan to run a company car through your business.
If your spouse or partner is doing work for your business, pay them a salary
Your company can pay your spouse a salary if they are doing some work for your company.
They may be doing admin type jobs, including dealing with e-mails. They could also be opening the post, answering phone calls, updating your accounting system, etc.
Therefore, your company pays a salary to your spouse or partner. The wage will reduce the amount of company profit that is subject to CT.
Before you consider the above, you ought to consider what their income is as a salary could affect their overall tax bill.
As part of your personal tax return preparation, and on an ongoing basis where appropriate, you could consider making use of the transfer of the marriage allowance. This is only beneficial in certain scenarios but you could benefit from this.
Keep informed of your company’s ongoing financial position
One of my important tax tips for UK contractors is once you have taken your salary and dividends, reimbursed any expenses, and paid any other bills, you will have a balance left in your company bank account(s). You need to know how much of this to save for company taxes and other bills. After taking account of this, you should be able to work out how much is available for you.
Most online systems, including FreeAgent, provide this information for you at a glance.
Tax tips for UK contractors -tax tips that cover claiming for expenses and the rules around these
Make sure you do not fall foul of the two-year rule for travelling expenses
As a contractor, you can claim your travel expenses to and from work and to and from other work sites. However, you need to be aware of the two-year rule. This rule states that as soon as you know, you will be at a worksite (that you spend 40% of your working time or more at) for longer than two years, you can no longer claim expenses to that site.
Being able to claim your travel expenses can have a significant effect on your net income. The higher the cost of your travel expenses, the more significant the impact would be if this affected you.
Save tax by making sure you hold your `annual event’
Every year you can claim for up to £150 per employee in respect of an `annual event’ or `events’.
This event could be the annual Christmas party or a series of events during the year.
The party is fully tax-deductible, providing the amount does not exceed £150 per employee.
Save tax by claiming for trivial benefits
One of the less well known tax tips for UK contractors is as a contractor, your company can pay you and any employees `trivial benefits’.
Individual amounts must not exceed £50, including VAT.
There is a total cap of £300 per annum if the employer is a `close company’ (companies with less than five shareholders). The payment is to an individual who is a director or other office holder or a member of their family or household.
Save tax by claiming for your mobile phone bills through your business
If you use your mobile phone for work reasons and there is only a `token’ element of personal usage, you can claim for your mobile costs as a business expense.
You should also try and ensure that the bills and accounts are in your company’s name.
Consider paying into a company pension scheme
If you pay into a company pension scheme, this is a tax-deductible expense and will save your company CT.
It is also a way of extracting further funds from your company without incurring higher rates tax.
Tax tips for UK contractors -tax tips that cover other areas
Have a good accountant that specialises in the contracting area. I detail here the things to consider if you are thinking of changing your accountant.
Save tax by considering other financial products
When you are a contractor, you will lose certain benefits that you receive as an employee. Therefore, it may be worth thinking about any relevant financial products for your protection in the future.
Relevant Life Insurance is not the same as standard life insurance. If you take this out, it is tax-deductible through your company. It also works out a much less expensive paying this through your company over the term of the policy. Broadbench offer a great service here.
As a contractor, you will no longer be able to claim statutory sick pay.
Therefore, Income Protection would provide you with an added piece of mind should you be unable to work in the future. Once again, Broadbench offer a great service here.
My ideas in Tax tips for UK contractors can go a long way in helping you save tax as a UK contractor. I do not cover absolutely everything here. However, this gives you a good insight into how you can save tax as a UK contractor or small UK limited company owner.
Link to Contractor Advice UK group on