Many small businesses start off with the owner also working a full-time job elsewhere.  The business is typically a hobby or interest that has grown.  But do you know when you should formalise it?  Does formalising your hobby business scare you?  Look no further for some hints and tips on how to get it right.

HMRC define you entrepreneurs as

• people who are employed and are paid wages through PAYE for their main job but who earn extra money from activities such as:
  • consultancy and other services
  • organising parties and events or providing entertainment
  • activities such as taxi driving, hairdressing, providing fitness training or landscape gardening
  • making and selling craft items
  • buying and selling goods

Register as soon as you can after you start trading.  At the very latest you should register by 5 October in your business’s second tax year – e.g. if you started trading between April 2015 to March 2016 you should register by 5 October 2016.  You can register online by following this link REGISTER AS SELF-EMPLOYED.

You have now formalised your trade with HMRC, maybe got someone you know to knock you up a website, you’ve set up your social media feeds, all the exciting stuff….you start trading and you start spending and making money.  What next?

Well, you have to keep adequate records to enable you to complete a self-assessment tax return.  What? I hear you gasp! Paperwork!

Firstly,  choose an accounting method.

Traditional accounting

For businesses that record income and expenses by the date you invoiced or were billed rather than the date you received money or paid money out.

Cash basis accounting

For small businesses with an income of £83,000 or less can use cash basis reporting.  You only record the sale or purchase once it is paid for.

Once you have chosen your method you will need to keep records of:

• all sales and income
• all business expenses (more on that later)
• VAT records if you are registered for VAT
• PAYE records if you employ people
• Records about your personal income

You will need all of this to calculate your profit or loss for your tax return, you will also need to show them to HMRC if asked.

If you have chosen to use the traditional accounting method, you will also need to keep the following:

• What monies you are owed but haven’t received yet
• What you have committed to spend but haven’t paid yet
• The value of any stock and/or work in progress
• Your bank balance at the year end
• How much extra money you have invested in the business during the year
• How much money you have taken out for personal use

Blimey! A lot to remember!  You can get rid of all that paperwork once you have filed your self-assessment tax return right?  WRONG! You have to keep your records for 5 years after the 31 January submission deadline.

How do I know how much additional tax I will have to pay?

It is likely that your PAYE wages take up your personal allowance and so all of your profits will be taxable at either 20% or 40%.  It isn’t as simple as working out how much income you have had as you will also need to calculate your allowable expenses.  These can include the following:

• office costs, eg stationery or phone bills
• travel costs, eg fuel, parking, train or bus fares
• clothing expenses, eg uniforms
• staff costs, eg salaries or subcontractor costs
• things you buy to sell on, eg stock or raw materials
• financial costs, eg insurance or bank charges
• costs of your business premises, eg heating, lighting, business rates
• advertising or marketing, eg website costs

You can also claim items as capital allowances such as:

• equipment
• machinery
• business vehicles, eg vans, lorries

Example

PAYE income £26,000

Less personal allowance £11,000

Taxable PAYE income £15,000 x 20% = £3,000

Profit from self-employment £2,000 x 20% = £400 (in January 2017 you will need to make this payment to HMRC).

What happens if you make a loss?  You can claim losses on self-employment income against the tax payable on your PAYE income.

Example

PAYE income £26,000

Less personal allowance £11,000

Taxable PAYE income £15,000 x 20% = £3,000

Loss from self-employment £2,000 x 20% = £400 (in January 2017 HMRC will refund the overpayment back to you).

If you make a profit of more than £8,060 in a year you will also be liable for Class 4 NIC at a rate of 9%, this is in addition to your Class 2 NIC which is £2.80 per week.

If in doubt, contact an accountant who will calculate your self-assessment tax return on your behalf.

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