How much should I set aside for tax?

One of the most common issues for business owners is not putting enough money aside for tax.

The amount you should set aside depends on:

• Your business structure

• Your level of profit

• Whether you are VAT registered

• Whether you have employees

Below is a simple breakdown.

If you are a sole trader

As a sole trader, you pay:

• Income Tax on your profits

• National Insurance

You do not pay tax on turnover. You pay tax on profit, which is your income minus allowable business expenses.

A common rule of thumb is to set aside between 20 percent and 30 percent of your profit for tax. If your profits increase into higher rate bands, this may need to be higher.

You may also need to make payments on account, which means paying part of next year’s tax in advance.

If you run a limited company

A limited company pays Corporation Tax on its profits.

As a director, you may also pay personal tax on:

• Salary

• Dividends

The company’s Corporation Tax is separate from your personal tax.

A common approach is:

• Set aside a percentage of company profit for Corporation Tax

• Separately plan for any personal tax due on dividends

Corporation Tax is currently charged at rates set by HMRC, depending on company profits. You can check current rates here:
https://www.gov.uk/corporation-tax-rates

If you are VAT registered

If you are VAT registered, remember:

• VAT you collect from customers is not your income

• It belongs to HMRC

You should keep VAT funds separate so you are prepared when your VAT payment is due.

Why setting money aside matters

Tax bills are often due months after profits are earned.

If you do not set money aside as you go, you may face:

• Large unexpected bills

• Cash flow problems

• Late payment penalties

A simple and effective habit is to move a percentage of your profit into a separate savings account each month.