How Do I Plan for Tax When Starting Out?
Starting a business or going freelance is an exciting journey. But alongside the thrill of launching your own venture comes the responsibility of managing taxes — a crucial element that, if overlooked, can lead to stress, penalties, or unexpected bills.
Planning for tax from the outset sets you up for smoother financial management and greater peace of mind. It helps avoid nasty surprises and gives you a clearer picture of your business’s health.
This article outlines how you can effectively plan for tax when you’re just starting out.
Understand Your Tax Obligations Early
The first step in tax planning is understanding what taxes you will be responsible for based on your business structure.
Sole Trader or Freelancer: You pay Income Tax and National Insurance on your profits through Self Assessment.
Limited Company: You pay Corporation Tax on your company’s profits, plus personal Income Tax and National Insurance on any salary and dividends you draw.
VAT: If your business turnover exceeds the VAT threshold (currently £90,000 in the UK) or you register voluntarily, you’ll also be responsible for VAT.
PAYE: If you have employees or pay yourself as a company director, you’ll need to operate PAYE for payroll.
Knowing this upfront helps you anticipate the tax types you need to plan for.
Register With HMRC Promptly
Registering with HMRC as soon as you start earning is vital. For sole traders, this means registering for Self Assessment, ideally within 3 months of starting business activities.
If you’re setting up a limited company, registration with Companies House and Corporation Tax comes next.
Delaying registration can lead to fines and unnecessary complications later.
Keep Clear Financial Records from Day One
Good tax planning depends on having accurate and complete financial records. This means:
Tracking all income and sales invoices.
Saving receipts for all business expenses.
Keeping bank statements organised.
Maintaining records of any assets or equipment purchased.
Digital accounting software can automate much of this and reduce errors. If you prefer manual methods, create a consistent filing system to keep paperwork tidy.
Separate Business and Personal Finances
Opening a dedicated business bank account is a key early step. Mixing personal and business finances makes it harder to track income and expenses, leading to confusion during tax time.
For limited companies, a separate business account is a legal requirement. For sole traders, it’s highly advisable even if not mandatory.
Estimate Your Tax Liability Regularly
Once you have some financial data, you can start estimating how much tax you might owe. This involves:
Calculating your business profits (income minus allowable expenses).
Estimating Income Tax and National Insurance contributions based on your profit level.
If VAT registered, forecasting VAT payments and reclaimable VAT.
For limited companies, estimating Corporation Tax and any dividends or salary tax.
Doing rough calculations quarterly or monthly helps you avoid surprises and allows you to budget accordingly.
Set Money Aside for Tax
One of the most common tax-related issues for new business owners is spending cash needed to pay tax bills. It’s crucial to set money aside regularly, ideally in a separate savings account.
A common rule of thumb is to set aside between 20% and 30% of your profits for tax, but this depends on your tax band and personal circumstances.
Understand Allowable Expenses
Knowing which expenses you can deduct from your income to reduce your taxable profit is a vital part of tax planning. Typical allowable expenses include:
Office costs (rent, utilities, internet)
Business travel and vehicle expenses
Equipment and supplies
Marketing and advertising costs
Professional fees, including accountants or software subscriptions
Check HMRC guidance or seek advice to ensure you’re claiming all relevant expenses.
Plan for Key Tax Deadlines
Missing tax deadlines can trigger fines and interest charges. Here are important dates to keep in mind:
Self Assessment Registration: By 5th October following the tax year you started.
Self Assessment Tax Return Deadline: 31st January for online submissions.
Tax Payment Deadline: 31st January for balancing payment and first payment on account.
Second Payment on Account: 31st July each year.
Corporation Tax Payment: Usually due 9 months and 1 day after the accounting period ends.
VAT Returns: Usually quarterly, with set deadlines depending on your VAT scheme.
PAYE Payments: Monthly or quarterly, depending on payroll frequency.
Use calendars, reminders, or accounting software alerts to keep on top of these dates.
Consider VAT Registration Carefully
You’re required to register for VAT once your turnover exceeds the VAT threshold, but voluntary registration can also have benefits or drawbacks.
Pros of VAT registration: Ability to reclaim VAT on purchases, perceived business credibility.
Cons: Additional administrative burden, potential cash flow impact.
Understanding how VAT affects your pricing and cash flow is important for effective tax planning.
Think Ahead About Your Business Structure
Your choice of business structure affects your tax position. While many start as sole traders, some switch to limited companies once their profits reach a certain level.
Incorporating may offer tax efficiencies, such as paying Corporation Tax instead of Income Tax, and the ability to take dividends which can be taxed more favorably.
However, limited companies involve additional compliance and accounting costs, so weigh these carefully with professional advice.
Use Accounting Software to Your Advantage
Modern accounting software can be a tax planning ally. Features often include:
Real-time profit and loss tracking
Automated tax calculations and reminders
VAT return preparation and filing
Invoice and payment tracking
Integration with bank feeds
Choosing software tailored to your business size and complexity can save time and help you plan better.
Keep Communication Open With Your Accountant or Advisor
If you work with an accountant, keep them updated about your financial situation and plans. Their insight can help you:
Identify tax planning opportunities
Avoid costly mistakes
Structure payments to manage cash flow
Plan for growth and tax implications
Even if you don’t use an accountant regularly, consider an annual review to get advice tailored to your circumstances.
Don’t Ignore National Insurance Contributions
Freelancers and business owners often focus on income tax but overlook National Insurance Contributions (NICs). As a sole trader, you pay Class 2 and Class 4 NICs depending on your profits.
As a limited company director, NICs are due on salary. Planning for NICs ensures you avoid unexpected charges.
Build a Tax Reserve Fund
Tax planning isn’t just about knowing what you owe but preparing for it financially. Building a dedicated tax reserve fund — money specifically saved to cover tax bills — reduces stress when payments come due.
Review and Adjust Your Plan Regularly
Business and personal circumstances change, so your tax plan should be flexible. Periodically review your income, expenses, and tax obligations to adjust savings rates, expenses claimed, or business structure if necessary.
Summary
Planning for tax when starting out is about understanding your responsibilities, keeping accurate records, estimating what you owe, and setting money aside. It involves awareness of deadlines, allowable expenses, and using tools like accounting software.
Starting with a clear tax plan helps you avoid surprises and keeps your business on a solid financial footing. Whether you choose to handle your tax yourself or seek professional help, good planning is the foundation of successful business management.
