Are you confused about your tax and national insurance obligations when you are both self-employed and employed? It can be overwhelming to navigate the complexities of these financial responsibilities. In this article, we will provide you with a summary of the key information you need to know. From understanding how income tax is charged on aggregate income to the different ways national insurance is calculated and collected, we have you covered. By the end of this article, you will have a clearer understanding of your tax and national insurance obligations as a self-employed and employed individual.
Income Tax
Income Tax is charged on aggregate income, regardless of the source. This means that all of your income, whether it’s from employment or self-employment, is taken into account when calculating your Income Tax liability.
To understand how Income Tax is calculated, let’s look at some examples. If you earn £10,000 from employment and £5,000 from self-employment, your total income for tax purposes would be £15,000. Similarly, if you earn £10,000 from employment, £8,000 from renting a property, £2,000 from bank interest, and £5,000 from self-employment, your total income would be £25,000.
It’s important to note that special tax rates apply to dividends and bank interest within the Income Tax charge. The current tax rates for the 2024/25 tax year are as follows:
- £0 to £12,570: 0%
- £12,570 to £50,270: 20% – Basic Rate Band
- £50,270 to £125,140: 40% – Higher Rate Band
- Over £125,140: 45% – Additional Rate Band
There is also a Personal Allowance of £12,570, which means that the first £12,570 of your income is not subject to Income Tax. However, this allowance tapers out on incomes over £100,000, creating a marginal tax rate of 60%.
If you are employed, your employer will deduct Income Tax from your payslip under the PAYE (Pay As You Earn) system. The amount of tax taken from your pay depends on your Tax Code. It’s worth noting that the accuracy of your Tax Code is important if you are not self-employed, as it determines how much tax you pay. However, if you are self-employed and in Self Assessment, the Tax Code is less important as it all comes together on your Self Assessment tax return.
National Insurance
National Insurance is charged on each source of income. There are different classes of National Insurance, and the type you pay depends on your employment status. Class 1 NI is paid on earnings from employment, while Class 4 is paid on profits from self-employment.
In addition to these mandatory National Insurance contributions, there are also voluntary options. Class 2 NI is a voluntary payment made by self-employed individuals with low profits to maintain access to the State Pension. Class 3 NI is another voluntary payment that can be made if you are not paying NI elsewhere but still want to maintain State Pension access.
National Insurance is collected differently depending on the source of income. Class 1 NI is deducted from your pay via the PAYE system, while Class 4 NI is calculated based on the profits from your self-employment and collected through the Self Assessment process.
It’s worth noting that there are provisions for annual National Insurance maximums, although they are complex and not widely used. If you are both employed and self-employed and below the NI thresholds on both sources, it may be worth considering voluntary National Insurance contributions to protect your State Pension.
Self Assessment
Self Assessment is the process by which you report your income and calculate your tax liability. It is particularly important for individuals who are both employed and self-employed, as it allows you to aggregate all sources of income and deduct tax paid at source.
When completing your Self Assessment tax return, it’s important to include all sources of income. This includes business profits, jobs and employments, rents, savings income, pension payments or income, and capital gains. You also need to enter the tax you have already paid at source, which will be offset against your final tax liability.
Including all sources of income on your Self Assessment ensures that you are accurately reporting your tax obligations. Failure to include all income could result in underpayment of tax and potential penalties.
To help you understand how tax liability is calculated when you have both employed and self-employed income, you can find case studies that provide examples on the this website.
Tax Code
The Tax Code plays a role in determining the amount of tax you pay, but its importance varies depending on your tax status. For non-Self Assessment taxpayers, such as those who are not self-employed, the Tax Code is more significant.
If you are not in Self Assessment, your Tax Code determines how much tax is taken from your pay under the PAYE system. It’s important that your Tax Code is accurate to ensure you are paying the correct amount of tax.
For Self Assessment taxpayers, the Tax Code is less critical, as the overall tax liability is determined through the Self Assessment process. HMRC will typically allocate your Personal Allowance against your Tax Code, but any discrepancies can be resolved through Self Assessment.
In cases where there are multiple income streams, such as employment and self-employment, it’s not uncommon for HMRC to get the Tax Code incorrect. However, if you are in Self Assessment, there’s no need to worry as it will be sorted out during the tax calculation process.
Voluntary National Insurance
Voluntary National Insurance payments are an option for individuals who want to make additional contributions to protect their State Pension. These payments can be made by both employed and self-employed individuals.
One of the key benefits of making voluntary National Insurance contributions is the positive impact on your State Pension entitlement. By making these payments, you can ensure that you maintain access to the full State Pension when you reach retirement age.
When considering voluntary National Insurance payments, it’s important to take into account your employment status. If you are employed, you may already be paying National Insurance through the PAYE system. However, if you are self-employed and have low profits, Class 2 National Insurance may be a viable option to maintain your State Pension access. Instructions for protecting your State Pension through voluntary National Insurance can be found on the HMRC website.
Special Tax Rates
Dividends and bank interest are subject to special tax rates within the Income Tax charge. This means that the tax rates for these sources of income may differ from the standard tax rates.
As of the 2024/25 tax year, the current tax rates for dividends and bank interest are as follows:
- Dividends:
- £0 to £500: 0%
- Over £500: 8.75% for basic rate taxpayers, 33.75% for higher rate taxpayers, and 39.35% for additional rate taxpayers.
- Bank Interest:
- £0 to £1,000: 0%
- Over £1,000: 20% for basic rate taxpayers, 40% for higher rate taxpayers, and 45% for additional rate taxpayers.
It’s important to take these special tax rates into account when calculating your overall tax liability.
Self Employment Supplement
The self-employment supplement is an additional section on the Self Assessment tax return that is used to report business profits. If you are self-employed, you need to include your business profits in this section.
In addition to business profits, there are other supplements on the Self Assessment tax return for reporting different types of income. This includes foreign income, rents, savings income, and pension payments or income.
It’s important to accurately report all sources of income in the appropriate supplements to ensure that your tax liability is calculated correctly.
State Pension
National Insurance contributions play a crucial role in determining your eligibility for the State Pension. The amount of National Insurance you have paid over your working life will impact the amount of State Pension you receive.
If you are self-employed, you can make voluntary Class 2 National Insurance payments to maintain access to the State Pension. Similarly, if you are not paying National Insurance elsewhere, you can make voluntary Class 3 National Insurance payments.
Maintaining access to the State Pension is important to ensure financial security in retirement. By making these voluntary contributions, you can protect your State Pension entitlement.
Instructions for registering for voluntary National Insurance to protect your State Pension can be found on the HMRC website.
Conclusion
Understanding your tax and National Insurance obligations as a self-employed and employed individual is crucial for maintaining compliance and maximizing your financial well-being. By accurately reporting your income, understanding the special tax rates and collection methods, and exploring voluntary National Insurance options, you can navigate the complexities of the tax system.
It’s important to include all sources of income in your Self Assessment tax return and to ensure that your Tax Code is accurate. By doing so, you can avoid underpayment of tax and potential penalties.
Voluntary National Insurance contributions can provide added security for your State Pension, allowing you to maintain access to the full benefit when you reach retirement age.
By staying informed and seeking guidance when needed, you can effectively navigate the tax and National Insurance landscape and make the most of your financial situation.
