The freelance lifestyle can certainly provide plenty of fun and frolics, but sooner or later you’ll have to get to grips with the more mundane necessities, such as sorting out your tax affairs. This can seem a daunting challenge, especially if you have had the displeasure of experiencing one of those one-hour-plus phone calls to HMRC to sort out a basic problem with emergency tax.
Tax need not be taxing, but the myriad options available to freelancers can be confusing. Without a degree in accountancy, how can you know whether you’re better off completing your own tax form, setting up a limited company, or working through an umbrella company?
That’s why we’ve put together a short guide to the different choices available, and how you can get the most money for your hard work – without incurring the taxman’s wrath.
Using an umbrella company is one of the best ways for first-time freelancers to manage their tax affairs, and many old-timers still find this gives them the best flexibility and the smallest headache when it comes to getting paid.
Under this model, you’re legally an employee of the umbrella company and are contracted out to the companies you actually work for. The advantage of using an umbrella company is that they will manage all aspects of your contract, pay and taxation on your behalf, so there’s nothing to worry about except submitting invoices.
Be warned, though: Not all umbrella companies are created equal. Some charge a swingeing fee for their services, while others involve a highly complicated and protracted process to set up new projects, which can lead to confusion and resentment from your employer’s HR or finance department – not the ideal way to start a new job.
Another thing to look out for is companies that claim to pay you a staggering percentage of your gross pay – often as much as 90 per cent. Yes, a good umbrella company should be tax efficient, helping you keep more of your money; however there are many that operate in distinctly grey areas of the tax code, potentially involving you with tax evasion schemes. Look for an umbrella company that is IR35-compliant and remember: if it sounds too good to be true, it usually is.
Sole trader or Limited company?
If you don’t like the idea of being tied to an umbrella company, you can decide to break free and set up your own business. This not only fits in with the swashbuckling self-image of freelance work, but it also gives you maximum control over your legal, tax and other financial responsibilities. It does, however, require you to take a hands-on approach to managing your income and taxation, and it’s not for the half-hearted.
The easiest way to go it alone is to set up as a sole trader: all you have to do is register with HMRC within three months of setting up. As a sole trader, you’ll be able to claim tax relief on business expenses yet, from a taxation point of view, it only really makes sense for those earning up to £25,000 a year.
If you’re going to be your own boss, it makes much more sense to set up a limited company. The main advantages are that you only pay corporation tax of 20 per cent on your profits, your liability is limited, and you gain the gloss of professionalism bestowed by those three little letters “Ltd”. This naturally comes with obligations, however. If you’re earning more than £82,000 during any 12 month period, you’ll have to register for VAT, which takes about eight weeks. There are also certain costs at the outset, you’ll have to keep accounts and statutory documents up to date, and withdrawing money from the company can be more difficult.
None of these problems are insurmountable, but you will almost certainly need a professional accountant to keep on the right side of the law. The alternative is to get to grips with accountancy and small business software such as Sage – perfectly possible, but certainly time-consuming.
One last point is that freelancers often find themselves doing small side projects where it doesn’t make sense to go through the rigmarole of setting up a contract with your umbrella company. In this case, you’ll need an accountant to help you navigate the labyrinth of Self Assessment. This could cost as little as a couple of hundred pounds – a snip, considering the peace of mind of being able to call on expert advice whenever you need.
Hartigan Recruitment works across a range of freelance and fixed term contract positions – for more information and advice on the best option for you, give us a call on 020 3198 0081.