How to be self-employed

Working for yourself, whether it’s as a freelancer, contractor or owner of a business, can offer much more freedom and control than life as an employee.

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But alongside this greater level of power come a number of new responsibilities that self-employed people will need to think about before they get down to the real business of finding clients and customers, and actually working.

From your legal status to your tax arrangements and insurance, you could find yourself dealing with considerably more red tape after going self-employed. In this guide, we’ll look at the key issues you face and explain how to address them with confidence.

Your self-employed status

One of the first questions you’ll face is what legal status you plan to have as your own boss. The decision boils down to whether you want to operate as a sole trader or register as a limited company.

Sole trader

This is the simplest way of operating as a freelancer, contractor or other type of self-employed worker. It essentially means that you are working as a private individual rather than as a separate legal entity.

You don’t have to register to start working as a sole trader, but you need to inform HM Revenue & Customs so they can include you in the self-assessment system for tax-collection purposes (see section 2 below).

As a sole trader, the money you make will be taxed in the same way as earnings from employment: income tax will be due on your profits after allowable expenses have been deducted, and you will also be liable for National Insurance contributions.

Limited company

Creating a business and setting it up officially as a limited company – by registering at Companies House – means more expense and red tape than going down the sole trader route.

But there are a number of potential advantages of starting your own company, so it may be worth considering. Even if you are working alone, having a company means that you won’t necessarily be seen as a one-man band – and this could mean that potential clients take you more seriously. Some larger companies may have a policy of only working with limited companies.

A company also means that your personal liabilities are limited: if you were to be sued for negligence or defaulted on a loan made to your company, for example, legal action could only be taken against your business – not against you as a private individual. Sole traders do not benefit from this kind of protection and can be held personally liable for mistakes made in the course of their work.

The way profits made by limited companies are taxed is also fundamentally different: instead of paying personal income tax, corporation tax – currently at a flat rate of 19% – is imposed. Company directors – which may just be yourself – can take profits out of the business in the form of dividends, alongside or instead of a salary.

Dividends can be subject to income tax, however. This approach can help avoid having to pay National Insurance but bear in mind that, in recent years, the government has increased tax rates on dividends.

Setting up and registering a company is not hugely complicated but many people opt to pay an accountant to complete the necessary paperwork.

It is easier to sell or pass on a business that has been set up as a limited company – so this could be worth thinking about in the long-term. Equally, it can be easier – and less risky in terms of your personal liabilities – to seek bank or other funding as a limited company than as a sole trader.


Many freelancers work as contractors on specific short- or medium-term projects at a single client company. This kind of work can be carried out as a sole trader or as a limited company, depending on the contracting company’s own policies.

Traditionally, such contractors have been treated by their clients as self-employed – this means they have been responsible for their own tax and National Insurance arrangements, and also that the contracting business does not have to pay National Insurance on the contractor’s behalf, as they would if they were an employee.

In recent years, the government has started to crack down on this kind of arrangement where businesses are passing off workers as contractors when they should in reality be treated as employees.

HMRC has a service that allows you to check yourr employment status.

Dealing with tax

As explained above, how you operate as a self-employed worker has big implications for tax and how you deal with it.

Tax for sole traders

If you are going down the sole-trader route, you should inform HMRC in order to register for self-assessment. This has to be done by October 5 in your business’s second tax year (the tax year runs from April 6 to April 5), and can be done here.

Sole traders need to file their self-assessment forms no later than the January 31 after the end of the relevant tax year. By filling in the form online, HMRC will automatically calculate how much income tax and National Insurance is due – and this bill will also need to be settled by January 31.

There are two things that can catch new freelancers and contractors out here: most obvious is the need to have set aside sufficient cash in the preceding months to cover this bill.

Another unpleasant surprise may come in the form of something called “payment on account”. HMRC typically requires those in the self-assessment system to pay 50% of their next year’s tax bill by the same January 31 deadline, with the remaining 50% to be paid by the end of July in the same year.

For those new to self-assessment, this means a January 31 bill of £10,000 could suddenly become £15,000. Provided you have been setting the correct proportion of your profits aside to pay tax, however, you should have enough cash to cover this as it applies – in theory – to profits you have already made.

For more information on payments on account, including how to adjust them if your earnings have changed, visit this web page.

Tax for limited companies

HMRC’s system for limited company tax filing is more complicated than self-assessment. (Bear in mind that you may also need to register for self-assessment if you are taking income as dividends, for example.)

Many company owners opt to employ an accountant to file the necessary paperwork – as well as drawing up annual accounts, limited companies need to file an annual confirmation statement to ensure their details are kept up to date. However, many accounting software packages make it relatively straightforward to draw up accounts yourself – it’s really a question of whether you have the time and confidence to go down the DIY route.

If you are paying yourself a salary or taking dividends as a director, these may need to be declared via the self-assessment system.

Registering for VAT

If your business turns over £85,000 or more in a single 12-month period – or you know that it will do – you need to register with HMRC for VAT. It is also possible to register to VAT even if your turnover doesn’t reach this level.

Being VAT registered means that you charge VAT, typically at 20%, on your sales, and that you file a VAT return every quarter. The VAT regime applies to sole traders and limited companies alike.

You can reclaim any VAT you pay out. However, many small businesses – especially freelancers and contractors – join what is known as the flat-rate VAT scheme.

This is aimed at companies which have low levels of expenditure, and which don’t need to reclaim much VAT, and is a simplified form of the normal scheme. In the past, rates on the flat-rate scheme were favourable and allowed many businesses to increase their profits by joining the scheme. However, much of this financial advantage has now been eroded by the government.

Being VAT-registered effectively means putting your prices up by 20%: if your clients are also VAT registered, this won’t matter as they can simply offset the VAT they pay you against their own tax bills. But if you are selling to smaller businesses or to the public, this can put you at a serious competitive disadvantage.

At the moment, the government is introducing a new VAT-filing system as part of its Making Tax Digital programme. This means businesses will have to maintain computerised VAT records, and they will also be obliged to file their quarterly returns using a compatible software program.

Even if your businesses is not yet at the VAT threshold, bear in mind that some larger companies will be unable or unwilling to work with you unless you are VAT-registered – for example, their payment systems may not be set up to deal with invoices where no VAT is due.

Getting the right insurance

As soon as you start working for yourself, you should think about what extra insurance you need. Potentially the most important – depending on the nature of the work you are doing – is professional indemnity insurance. This can protect you against legal claims arising from, say, something you write, advice you give or a design you create.

A sole trader who is successfully sued could risk losing their own assets – including their home – whereas a limited company’s liability is normally restricted to the business’s assets such as equipment or cash in the bank.

You may also need to insure any specialist equipment you own or need to buy, especially if you are taking it away from your home.

Think about whether you need public liability insurance, which protects you in the event of someone being injured or property being damaged as a result of your business activities.

If you are running your business from home, you may need to inform your home insurance provider to check whether your buildings and contents policies need to be updated to reflect that fact.

Note: We take care to ensure Talking Finance content is accurate at the time of publication. Individual circumstances can differ so please don’t rely on it when making financial decisions.