How to reduce a tax bill if you’re self-employed

Being your own boss can be liberating, although it comes with more responsibilities, including filing and paying your taxes. 

While it can be overwhelming to find ways to reduce your tax liabilities, alongside completing your annual tax return accurately and on time, there are ways to make the process easier. 

We explore how to legally reduce your tax bill if you’re self-employed.  

How do self-employed individuals file and pay taxes? 

Traditionally, self-employed individuals pay tax by submitting an annual online Self Assessment return and paying by 31 January each year.

While this single annual filing method still applies to small businesses earning under £50,000, it is actively being replaced for higher earners by Making Tax Digital (MTD) a reporting requirement where you tell the taxman about your finances more often.

If your gross qualifying income is over £50,000, you are now required to keep digital records. You must submit four digital quarterly updates to HMRC using compatible software, followed by a final declaration.

This quarterly reporting system expands to those earning over £30,000 next April. While these rules change filing frequencies for many, the main strategy remains the same. Keeping precise digital records of your expenses is vital to lower your taxable profit and reduce your final bill.  

There are other circumstances where you must submit a self-assessment return, which we explore here. 

When will I become liable for Making Tax Digital? (MTD)

When you will need to implement MTD will depend on your gross annual income. 

This is your total business turnover and rental receipts combined, before deducting any expenses, allowances, or tax.

For example, if your total sales are £55,000 but your business profit is only £20,000 after costs, your gross income is still £55,000, meaning you must comply with the new digital quarterly rules.

Other income streams like PAYE wages, dividends, or pensions do not count toward this threshold.

The table below makes your implementation date clear.

Top ways to reduce your tax bill if you’re self-employed 

There are many ways to legally reduce your tax bill as a self-employed individual, including: 

Claim any expenses and allowances 

HMRC often doesn’t tax you on the money you must spend to keep your business running. This means many costs directly related to your work can be deducted from your profits before tax when calculating your tax bill.  

There are many allowable expenses you can claim, including office supplies and equipment, expenses related to business premises and legal and professional costs. 

The government website has a list of allowable expenses you can claim here.

You may also be able to claim some of the costs associated with working from home.  

Sole traders and those part of a partnership can either claim a flat rate or an amount based on how much they spend for work purposes.

The flat rate scheme is a simplified way to claim a fixed monthly deduction based on your actual working hours:

• £10 for 25 to 50 hours

• £18 for 51 to 100 hours

• £26 for 101 hours or more

Choosing this self-employed flat-rate method can reduce your bookkeeping admin.

Claim higher rates of pension tax relief (if eligible) 

Making pension contributions is a savvy move. Not only can you potentially save on tax, as it lowers your taxable income, but you’ll also be saving for your retirement. This can be particularly useful if you’re about to be pushed into a higher income tax bracket or exceed earnings of £100,000. 

You have an annual allowance every year (£60,000 annually), and you can use any unused allowances from the last three tax years, known as ‘carry forward.’ 

Also, if you’re a UK resident under the age of 75 who is contributing to a pension, you’ll get tax relief. 

Basic-rate taxpayers (those paying 20%), you get automatic tax relief on your contributions, provided you don’t exceed the annual pension allowance. 

However, if you’re a higher and additional-rate taxpayer, you may need to claim an extra 20% or 25% tax relief via your self-assessment tax return or by contacting HMRC. 

The taxman will then pay you the extra tax relief, adjust your tax code, or reduce your tax bill accordingly. You can claim back pension tax relief for the past four tax years. 

You should contact your pension provider if you’re unsure how they handle tax relief.  

Use your ISA allowance 

An individual savings account (ISA) allows you to save tax-free, and the current allowance is £20,000.  

There are many ISAs to choose from, including stocks and shares ISAs and cash ISAs. 

Any interest on cash, investment income, or gains is tax-free, helping you to legally avoid tax. If you invest via a stocks and shares ISA, you don’t pay capital gains tax (CGT) when you sell your investments. 

Using an ISA could help lessen the impact of recent reductions to the dividend and capital gains tax allowances. If you exceed these allowances, you will have to pay tax. 

Consider Bed and ISA 

You could also consider using ‘Bed and ISA.’ This is where you sell an investment held in a brokerage account and re-purchase it in an ISA, making it then protected from income tax, CGT, and dividend tax. 

There are a few things to consider beforehand, which you can explore here, including that any profits from investments in your brokerage account may be subject to CGT. 

One key consideration is the 30-day rule, which requires a 30-day waiting period before re-purchasing the same investment to prevent investors from benefiting from ‘bed and breakfasting.’  

‘Bed and breakfasting’ refers to the practice of selling investments at the end of the tax year, utilizing the CGT allowance, and then re-purchasing them at the start of the next tax year.  

Offset losses 

Offsetting losses from self-employment (intended to make a profit) in a tax year against other taxable income could also reduce your tax bill. 

This is because any tax due would be calculated on the income after the loss has been deducted. 

To offset any losses, you’ll need to claim via your self-assessment tax return. 

Donate to charity 

You can get tax relief when you donate to charity and reduce your tax bill as they can be claimed in the current or previous tax year. 

If you’ve made a charity donation via Gift Aid, whether it’s cash, property, shares, or land, and are a higher or additional rate taxpayer, you may be able to claim up to 25% tax relief. 

You can do this via your self-assessment tax return form.  

Have you made any overpayments? 

If you’ve made any overpayments over the last four tax years, you can apply for a refund by contacting HMRC.  

You will need to provide supporting evidence. 

You’ll also need to include a signed declaration to confirm that you haven’t tried to claim this refund before, confirm your details are correct, and how you want any overpayments to be made. 

Get expert tax advice 

There are many ways to legally reduce your tax bill, but this can be a complex area, and there are many tax allowances and reliefs you can miss out on. 

It’s worth considering expert financial advice from a qualified accountant, particularly if you’re not confident about sorting your tax return yourself. 

It’s always a good idea to sort out your self-assessment tax return sooner rather than later to ensure you get taxed the right amount.