What taxes do small businesses pay?

Introduction to small business tax: what taxes do small business owners pay?

Your business may have to pay a number of different taxes, such as:

• Corporation tax
• Income tax
• VAT
• Business rates
• Employers' national insurance contributions
• Capital gains tax

What tax your business pays will depend on how it’s set up, whether or not you have employees, and other factors such as your business assets and premises.

Primarily, your business will be taxed on its profits (the net amount of money it makes after losses and expenses). How this happens will depend on its structure.

Sole traders pay income tax, as do partnerships (with partners submitting separate tax returns), and also Employees’ National Insurance contributions. Limited companies pay corporation tax.

You may also have to pay business rates on your premises.

If you supply VAT-able goods or services, and your taxable turnover is above a certain limit (currently £90,000) then you will need to register for VAT.

If you have employees, you will need to pay Employer’s National Insurance contributions.

Finally, when a sole trader or partnership sells assets that have increased in value, there may be capital gains tax to pay (limited companies pay corporation tax).

What is corporation tax?

If your business is a limited company, it must pay corporation tax on its profits – from trading, investments and the sale of assets.

The rate depends on your company's profits: a small profits rate of 19% applies to companies with profits under £50,000, while a main rate of 25% applies to companies with profits over £250,000.

You’ll need to register for this tax when you set up as a limited company (within three months of starting to trade).

You are responsible for ensuring you pay the right amount of tax, so you must keep accurate company accounts and file a company tax return by your deadline (an accountant can take care of this).

Find out more about corporation tax, when and how to pay it, and the reliefs and allowances available.

What is VAT?

Value added tax (VAT) is added to most goods and services. If your business is above a certain size (a turnover of £90,000 excluding VAT-exempt sales) then you must be VAT-registered.

However, you can register for VAT voluntarily if your business is smaller. Although it is a major responsibility, there can be some advantages in doing so.

When your business is registered for VAT, you must charge it on all VAT-able products and services.

You will then submit a quarterly VAT return to HMRC, and at the end of each tax year, you receive a tax bill for the total that you owe. This is called your ‘output tax’.

The good news is you can also claim back VAT on products and services that you buy (this is your ‘input tax’).

If your input tax is greater than your output tax, you can reclaim the difference from HMRC in your VAT return. This is one reason why some smaller businesses may choose to register voluntarily.

Learn more: VAT for your small business

Business rates

Business rates are charged on most business premises.

If you work at home and use only a small part of your home (e.g. one room) then you may not have to pay them, but if a large part of the property is for business use (e.g. a shop with living space above it) then you may be charged business rates.

The amount you have to pay is based on the value of your property, so can increase if commercial property prices rise in your area.

You can estimate how much yours will be using HMRC’s calculator. However, if your bill increases it will do so gradually, thanks to transitional relief.

Do I qualify for small business rate relief?

Other business rates reliefs are available, and these can enable you to reduce or even eliminate your bill.

They are available to many kinds of business property, for example:

• Lower-value properties (£15,000 or under)
• Those used for charitable purposes
• Those in Enterprise Zones
• Some pubs
• Some agricultural buildings

An accountant can help you work out your business rates bill and identify any reliefs for which you qualify.

Find out more about business rates.

What are employers’ national insurance contributions?

If you employ staff, you will need to pay national insurance contributions (NICs) on their wages.

These are known as ‘secondary Class 1 NICs’, and are not to be confused with ‘primary Class 1 NICs’, which are made by employees through PAYE.

You will also have to pay these contributions on most employee benefits (e.g., company cars, private medical insurance) and on expenses claimed by employees.

The amount is usually 13.8% of the earnings or benefit, but there are exemptions for certain employees, such as those earning £242 or less per week.

What about income tax and national insurance?

If your business is a limited company (paying corporation tax on its profits), as a director you will still need to take an income, which could be subject to income tax and NI contributions.

You have some flexibility about how you do this, and this can help you reduce the tax you need to pay.

The two main ways to take an income from a limited company are as

• Salary
• Dividends

Salary

Your salary is subject to income tax and NI contributions above certain thresholds. However, as you directly set your own salary, you may be able to reduce the amount of tax you have to pay.

For example, if you pay yourself a salary below the primary threshold, you won’t have to pay NI or income tax.

As long as it’s above the lower earnings limit, you will still qualify for the state pension.

Alternatively, you could pay yourself a salary up to your personal allowance, which would be free of income tax. This would still result in a low income, but you may be able to top it up by taking dividends from company profits.

Dividends

Dividends can be a more tax-efficient way to take income from your company.

A dividend is a portion of the company’s profits, paid to all shareholders for every share they hold (so if you own 60% of the shares, you receive 60% of the dividends, and so on).

The first £500 of dividend income you receive in any tax year is tax-free and, after that, is subject to dividend tax. Like income tax, this is banded (depending on your taxable income), but the tax rates are lower: 8.75% for basic rate, 33.75% for higher rate and 39.35% for additional rate.

Bear in mind that as dividends are a share of profits, you cannot pay one if your company does not make a profit. All dividend payments must be recorded and declared, even if you are the sole shareholder.

An accountant can advise you more about ways to take income from your company and recommend the best strategy for you.

What are tax-deductible expenses?

Many of the essential costs of running your business (such as buying stock, paying staff and business travel) are tax-deductible - meaning you will not be taxed on the money spent on these costs.

Good managing of expenses can significantly improve your cash flow situation.

Find out more about tax deductible expenses for companies and expenses for self-employed people.

Get expert financial advice

Understanding the various taxes that small businesses face is crucial for effective financial management.

From corporation tax and VAT to business rates and national insurance contributions, each tax has its own implications and requirements.

By staying informed about your obligations and leveraging available reliefs and allowances, you can optimise your tax strategy and focus on growing your business.

Unbiased can match you with an accountant or financial adviser to help you navigate tax planning and ensure an optimal tax strategy.