Self-Employed Expenses made Simple
This guide explains what expenses can be used to reduce your tax bill. There may be a few you had not thought of!
As a self-employed person you pay tax and National Insurance on the amount you earn from your business activities, and indeed any other incomes, at the prevailing rate. You can reduce the amount of tax and National Insurance you pay by ensuring you deduct all your allowable business expenses from the taxable amount.
Income = £30,000
Allowable expenses = £5,000
Profit for tax and National Insurance purposes = £25,000
The purpose of this guide is to highlight what expenses you can and cannot deduct from your income for tax purposes, and to try to unravel some of the hidden complexities surrounding the issue. Generally speaking, you can deduct expenses that fully relate to your business activity, but not personal expenses. Some expenses are fully an expense of your business, but are not tax deductible, for example business entertainment. Then there are some expenses which a proportion of is for your business activity and a proportion of is personal - so for example you may use your mobile phone for both business and personal calls.
Deducing what is an allowable business expense is not always straight forward, but with a little research you can become your own expenses expert.
In some situations, HMRC have come up with a number of easy ways to calculate these expenses. For example, when you use your car for business, they have created a simple method of calculating the cost of doing so, which includes petrol, depreciation and maintenance costs. To do this, HMRC issue a standard rate per mile you can use to calculate the expense.
There are other expense areas where HMRC have created these clever work arounds if you want to avoid the complexities of calculating the exact amount yourself. These are known as Simplified Expenses, and can be used for vehicle costs, working from home and for those living in their business premises.
For many of you, Cash Basis accounting will be the method that you are using. This term is used throughout this guide.
What is Cash Basis? It’s when you record a transaction at the point you receive or pay the money. For a self-employed person with a relatively simple business, it will keep your tax affairs easier to understand.
HMRC won’t let every Self-Employed person use this method – you need to have a turnover of less than £150,000. Cash Basis may not be suitable for your circumstances. Traditional (accrual based) accounting gives a more thorough view on your trading position, as it counts invoices that may not have been paid and can apportion costs over the period that you receive the benefit, to help give a more accurate position of your true profit and loss.
Useful link – HMRC on Cash-Basis https://www.gov.uk/simpler-income-tax-cash-basis/who-can-use-cash-basis
In a way, calling the cost of doing business ‘Expenses’ makes them feel a little naughty, like something you are getting away with. These are your business costs. You have every right to deduct these costs, where possible, from your business income, to arrive at the correct taxable profit.
You are responsible for keeping a record of your income and expenses, and reporting these annually, to HMRC, via your Self-Assessment tax return.
HMRC says, ‘You must keep your records for at least 5 years after the 31 January submission deadline of the relevant tax year. HM Revenue and Customs (HMRC) may check your records to make sure you’re paying the right amount of tax’.
The way to keep this simple is to have a separate business account, from which you try to make all your business payments, this way the account itself acts as a record of your expenses. (You’d be surprised how many sole-traders use the same account for business and personal expenses.) If you then retain all your receipts, life becomes easier still. We would suggest making electronic copies of your receipts. HMRC may ask you for proof of both the expenses and their business use.
For those of you with simple accounting requirements, i.e. you have a limited number of monthly invoices and expenses, we would suggest having a look at GoSimpleTax, which is a low-cost online software that allows you to upload and categorise all your receipts. It actively looks for items you should be offsetting against tax. It will add up your profit and loss to date, giving you a useful snap-shot, and then calculate and submit your full year tax return to HMRC. If you have lots of transactions and a much higher income, then you may need to employ the help of a specialist advisor, or certainly the addition of a simple accounting package, connected with your bank account.
Can I claim for expenses from previous years?
Many of these allowances can be back claimed for the past three years, if you feel you were entitled to them and missed out. In the 20/21 tax year, you would be able to claim back as far as for the 17/18 tax year.
You can do this by amending previously submitted tax returns to HMRC.
Expenses you can off-set against tax
If you are using your home as your office you can offset a proportion of your household bills such as heat, electricity, council tax, and water.
Even if you only use your home for minor business use, HMRC will accept a reasonable estimate provided your claim is small and reflects your circumstances.
Alternatively, HMRC now offer a simplified way to claim for working at home which is based on the average number of days you work at home during a month. Details can be found at Simplified Expenses if you are Self-Employed or read our guide on working from home expenses for Self-Employed. Using this method, you can claim a fixed amount per month, based on the number of days each year you work from home.
Office costs & Phone/Internet
If you work out of an office rather than home, then all running costs, repairs, maintenance, etc. can be claimed. It is a much more black-and-white situation, than working from home.
Many self-employed will be based from home, in which case, your home office running costs such as paper, pens, ink cartridges, postage etc, when for business use, can be written off against profits. Business phone calls can be claimed, but only a proportion of line rental and broadband charges can be claimed. The percentage will depend on how much they are used for business activities.
Laptops and printers etc. can all be deducted from profits via capital allowances, or the annual investment allowance, according to the proportion of their business use. Costs incurred in respect of software licences and rentals may be offset against profits across the duration of the rental; unless you are using the cash basis.
IT, marketing & admin Costs
Marketing and advertising costs such as newspapers, directories and online campaigns for your business can all be claimed but must be allocated across the duration of the advert; unless you are using the cash basis.
Membership fees and subscriptions
You can claim tax relief on membership fees and subscriptions provided they are incurred wholly and exclusively for the purposes of the trade.
Professional and accountancy fees
Provided legal fees are incurred wholly and exclusively for business purposes and are not capital in nature, they may be offset against profits. For example, fees incurred in relation to a new lease for some premises. Costs of preparing annual accounts, bookkeeping, operation of payroll and ongoing tax compliance are generally allowable trading expenses.
Mileage, vehicle costs & travel
You should keep a log of both personal and business mileage. When you first introduce a vehicle to the business, you may account for your vehicle expenses using HMRC’s mileage rates. The first 10,000 business miles can be claimed at a rate of 45p per mile; 25p per mile thereafter. (Motorcycles are at 24p per mile). The mileage rate covers the cost of fuel, servicing, insurance, tax, MOT, depreciation of the vehicle etc.
However, you may claim for specific business journey costs such as tolls, congestion charges and parking fees and the finance element of a hire purchase or finance lease in addition to mileage.
If you don't use the set mileage rate, you can claim a proportion of the actual vehicle running costs. The amount you can claim is in proportion to the vehicle’s business use, which can be established using the vehicle’s mileage log. Travel and accommodation on business trips and between different places of work can be claimed as well; but you cannot claim for “commuting” i.e. travel from home to work.
Meals and subsistence are not generally allowable, unless they are in respect of a trip that qualified as business travel. The cost to purchase a vehicle cannot be claimed as an expense if you are using the mileage rates, as the rates are deemed to cover the depreciation of the vehicle. If you are accounting for vehicle expenses using the actual costs incurred, the cost of the vehicle, may qualify for relief via capital allowances.
All costs of employing staff, apart from yourself, such as wages, NI contributions, pension, training, childcare provision (subject to conditions), can be claimed for.
If you attend courses to maintain and update your existing skills, these will be allowable if it relates to the trade. But if the training is for learning a new skill, it is not allowable on account of being capital in nature.
All business bank and credit card charges, leasing payments and hire purchase interest are tax deductible. Just be aware that if the contract relates to an asset that has an element of private use, such as a car, some of the interest or rental payments may need to be disallowed accordingly.
If you need to purchase a uniform or something like specialist clothing for your business, such as protective gear, (and no, suits do not count) then these can be claimed.
Sustenance and accommodation expenses
HMRC view that everyone has to pay for food, so meals are not normally deemed a tax deductible expense. If you have to make a journey for a business reason, say for a meeting, then the cost of reasonable sustenance and overnight accommodation is allowable. What would not be allowable is if you were based in a hotel to do a job. The cost of the hotel and sustenance are then not allowed. Deep breath.
Cost of sale goods
Goods that are purchased for you to sell on or materials used to make your products can be claimed. Any purchases left in stock at the end of the accounting period should be excluded and instead recognised in future periods as they are sold/ consumed, unless you are using the cash-basis.
Any amount that is included in your turnover figure, but has not been paid, and has been written off as unrecoverable, can be claimed.
If you have used cash-basis you should only have recorded the income when you received it. This avoids recording an income figure which you pay tax on, which includes money still owed, and of which you may not get paid. Not an uncommon issue.
If you have spent money getting your business set up before you officially started trading (before you sold an item or did some work for a customer), you can claim these costs against the tax you owe, as long as these costs happened within 7 years, and these costs would normally be considered tax deductible.
So for example, you may have spent some money on a website or a new computer, these will be acceptable as an expense of your business, and would be accounted for on the first day you officially started trading, not when the cost actually occurred.
Capital expenditure relates to one-off expenses to buy an asset or improve said asset you keep and use for your business. Capital items such as vehicles, computers, premises, etc, and their depreciation, are dealt with separately via the capital allowances regime. If you are using cash-basis then you will likely be recording, say the purchase of a PC, as an expense solely at the date when it occurred.
Annual Investment Allowance
The Annual Investment Allowance is an allowance which offers relief at 100% for qualifying expenditure in the year of purchase. Many common business assets such as office equipment, furniture and machines or tools, are considered plant or machinery and may therefore qualify for the Annual Investment Allowance. However, if your profits are less than the personal allowance (£12,500 in 2020/21) you may be better off not using your available Annual Investment Allowance for assets you’ve purchased, as this will waste your personal allowance. You may instead decide to carry forward the assets and write them off in future years when you have tax to pay. Between April 2008 and January 2016 the AIA amount changed several times fluctuating from £50,000 to £500,000 and in between. For the years 2016 up to the 31st December 2018 it was £200,000. From the 1st January 2019 it has been temporarily increased to £1 Million. HMRC has details on the Annual Investment Allowance.
What can’t I claim for?
We started this guide off by saying that generally anything that is a genuine cost of doing business can be claimed as a tax deductible expense. As you have read through the guide you will have seen that HMRC have gone to great lengths to ensure that you cannot claim for anything that can reasonably be classed as a personal expense. Travelling ‘to’ your place of work is a good example of something they would describe as a personal expense and treated differently than if you were travelling ‘for’ work. If you travelled to a client’s house to do gardening work, then that would be considered travelling ‘for’ work and an allowable expense. However, even here there are complications. If you went to the same client’s property or premises for more than 24 months, then you would no longer be able to treat that as a tax-deductible expense. If you had spent more than 40% of your time there, or if there was a pattern to your attendance, then you cannot treat the journey as a tax-deductible expense.
Entertaining clients is a work-related expense, but probably due to all the mis-use of this type of expense, it is no longer tax deductible.
You also cannot claim for the initial cost of buildings, or indeed altering or improving them. But do check whether any improvement work qualifies for the Annual Investment Allowance or Capital Allowance.
We hope you have seen that tax-deductible expenses are relatively straight forward, particularly with regard to the everyday costs of running your business, but you do need to be careful not to assume that everything can be considered a tax-deductible expense.
Cash-basis accounting may be suitable for those with less complex trading arrangements, but it will not suit all. We would suggest trying to gain an understanding of when cash-basis is appropriate and when you ought to be considering moving to the traditional (accrual) accounting method.
We would recommend you take specialist advice if you have a high turnover, as there maybe opportunities to make further savings - in fact you may also consider trading through a limited company. We also recommend running a separate business bank account, and always keeping adequate records of outgoings and expenses. You never know when HMRC may come knocking.
There are good low-cost accounting and self-assessment software on the market, which can make your life much easier. A sole-trader can do a lot with the GoSimpleTax self-assessment software, and if you have a high level of transactions, it integrates with well-known accounting packages likes Xero, Quickbooks, Freeagent, and Freshbooks
For more on Self Assessment see our Guide.