Payment of Income Tax
Please note that we can help you reduce your tax liabilities if you have incorporated as a limited company or can do so. You can then keep over 80% of your income. Contact us on 020 7871 0727 for more details.
When working in the UK you can either be self-employed (treated as running your own business) or an employee. A dentist running his own practice is clearly self-employed. As an associate, you don’t directly run a practice, however even so you will almost certainly be treated as self-employed.
The timing and responsibility for the payment of tax is a major difference between being an employee and being self-employed. As an employee, your employer is required to deduct the correct tax and National Insurance contributions from your gross pay so that what you receive you are free to spend. Once you are self-employed, it is your responsibility to pay the correct amount of tax on time and you should therefore register as self-employed as soon as possible with HM Revenue & Customs.
In the UK, as a result of a historical quirk, the tax year runs from 6 April to 5 April. You are taxed on the profits of your accounting year which ends in the tax year. Thus, if you make up accounts each year to 31 December, the profits of your year to 31 December 2010 will fall in the tax year running from 6 April 2010 to 5 April 2011 (known as the 2010/11 tax year). There are some complications when working out the taxable profits in the first and last years of a business to make sure all profits are taxed (but not if you have a year end of 5 April when your accounting period exactly matches the tax year).
Income tax is payable in respect of the taxable profits of each tax year in three instalments on 31 January during the tax year and 31 July and 31 January following the tax year. The first two instalments are based on your income tax bill in the previous tax year. The income tax used for these purposes excludes amounts collected under PAYE and collected at source on savings and therefore if you are a new associate you are unlikely to have any tax to pay for the first two instalments. The third instalment is a mopping up payment of any additional tax to meet the actual tax liability for the year. The way that this works is perhaps best illustrated by an example:
Let’s say you started as an associate on 6 April 20010. During your first year to 5 April 20011 (2010/11 tax year) your profits were £40,000 and you have a tax liability on those profits of £10,000. In your second year of trading (20011/12) your profits increase to £50,000 on which the total tax liability is £14,000. In your third year (2012/13) your profits increase again to £60,000 on which the total tax liability is £18,000. Your tax payments will be as follows:
31 January 2012
a) The outstanding tax for 2010/11 is the entire tax amount of £10,000
b) The first instalment of tax for 2011/12 is based on half of the final liability of £10,000 for 2010/11 and is also payable
31 July 2012
|The second instalment for 2011/12 is again based on half of the final liability of £10,000 for 2010/11
31 January 2013
a) The total liability for 2011/12 is £14,000 of which £10,000 has already been paid in the earlier instalments leaving £4,000 now payable
b) The first instalment of tax for 2012/13 is based on half of the final liability of £14,000 for 2011/12 and is also payable
31 July 2013
|The second instalment for 2012/13 is again based on half of the final liability for 2011/12
31 January 2014
a) The total liability for 2012/13 is £18,000 of which £14,000 has already been paid in the earlier instalments leaving £4,000 now payable
b) The first instalment of tax for 2013/14 is based on half of the final liability of £18,000 for 2012/13 and is also payable
In this example, as a new associate you could have up to 22 months between starting work and paying your first tax. It can therefore be tempting to spend what you earn as you go along with the intention of saving for the tax later. This is a dangerous strategy as the first tax bill will be substantial: it will be the total tax on your first year’s profit plus an additional 50% as the first instalment of tax on your second year’s profit. Assuming continued profit growth, each January will create further elevated tax bills. It is therefore absolutely vital that you discuss with your accountant when you start in practice what your likely tax liabilities will be and when they will arise based on your own circumstances. You should then ensure that you budget carefully for your forthcoming tax bills from the outset: the best way of doing this is to open a separate building society account and transfer a proportion of your income to that account each month.
Your tax return reporting your taxable profits for the tax year needs to be submitted by 31 January following the end of the tax year. It may be tempting to delay the work on your accounts and tax return until the last minute in order to delay the expenses relating to your return and accounts. Unfortunately this may be a false economy because by preparing your accounts and return close to the submission deadline you will have little advance notice of any liabilities due on the submission deadline of 31 January.
Payment of National Insurance
From the date of commencement of your self-employment you will be required to pay two forms of National Insurance contributions:
The first is Class 2 at a fixed rate of £2.40 per week for tax year 20010/11. Class 2 NI payment will normally be collected by direct debit a few months after you register as self-employed.
The second is Class 4, which is based on the level of your profits. You pay 8% on annual taxable profits between £5,715 and £43,875 for tax year 20010/11. On any additional profits you will pay contributions of 1%. These contributions are effectively treated as an additional tax liability and are collected in the same way as described above for income tax. The amount that you set aside for tax therefore also needs to take account of the Class 4 National Insurance contributions that will be payable.
As an associate, your accounts are likely to be pretty straightforward with relatively few invoices and bills. Nevertheless, some organisation of your affairs will pay dividends either through making your job easier, or through making it quicker (and hence cheaper) for your accountant to prepare your accounts and tax return. Some useful tips include:
• Whilst not a requirement, it makes life easier if you have a separate business bank account. There are now some available which are free of charges in the same way as a personal account.
• Give each invoice that you issue a number or reference that forms a continuous sequence.
• Keep a file of these invoices in number order and when each one is paid write on it the date that it was paid and the paying in reference (if you pay in several amounts at once).
• Pay all receipts into the business bank account.
• For bills that you receive, again number them sequentially, file them in order and note on them how you paid for them (cheque, credit card, cash etc.).
• Where possible, pay your bills from your business bank account. In practice this will not always be possible as you may need to pay immediately by credit card for example.
• Annotate your business bank statement so that each item can be traced back to the source documentation. This is useful in the event of an enquiry by HM Revenue & Customs at a later date as you will be able to clearly demonstrate that all income has been included in your accounts.
• Don’t pay any private bills from your business bank account. Instead make a monthly transfer of your drawings from your business account to your private account (plus one to your tax savings account).
You may wish to keep much of this information on a computer. Whilst you could purchase an accounting package, as an associate it is probably a waste of money. Simple spreadsheets will be just as good. For example, you could have a spreadsheet listing all the bills you receive with columns for: the bill number, the date of the bill, the supplier name, the gross amount of the bill, the main types of bill (such as telephone or motor car) into which you also enter the amount of the bill, the date it was paid and the source of the payment. The various expenses will then be sorted into like categories ready for the preparation of your accounts.
There is a widely held misconception that being self-employed is an opportunity to offset all sorts of expenses and pay little or no tax. The reality is that expenses are only deductible if they are business expenses: in other words if you have actually spent the money for the purposes of your trade.
The very nature of being an associate (i.e. no premises or staff) means that you will have relatively few expenses.
The main expenses are likely to be:
· Professional subscriptions (e.g. GDC, MPS/DDU, BDA)
· Magazines and books related to dentistry (e.g. Dentistry)
· Paper, postage and other office consumables
· Accountancy fees
· Use of your car
· ; Laundry and work clothes
· Use of your home as an office
It is normally the last four of these items that create the biggest problems and so these will be considered in greater depth.
Use of your Car
Common misconceptions are that as a self-employed person you can either claim all of your motoring expenses or a fixed percentage of those costs, such as 50%. A deduction is however only allowed in respect of costs which relate to your business. The normal way of assessing this is by taking the proportion of your costs which represent your business mileage in the car. This can be estimated, but in order to protect yourself in the event of an enquiry by HM Revenue & Customs, it is advisable to maintain a mileage log of business journeys. For these purposes, your journey from home to the surgery does not represent a business journey. In reality therefore, for most associates, business mileage may be limited to: home visits to patients, travel between surgeries (where a practice has several surgeries), travel to courses and visits to the lab. Supposing that the business mileage represents 10% of the total mileage, then a deduction can be claimed for 10% of the running costs of your car (insurance, road tax, servicing and repairs, fuel and interest on any loan to purchase the car). In addition a form of relief for the depreciation of your car known as "capital allowances" is also available. To avoid maintaining detailed records where the business mileage is very low, it is generally acceptable to claim a fixed rate deduction of 40p/mile which is the same rate as is used by employees.
A deduction is generally allowed for the cost of courses. HM Revenue & Customs may challenge the deduction where the course provides you with new skills as opposed to maintaining your existing skills. In practice, this is unlikely to be a problem for typical 1 day, or even 1 week courses and conferences. A deduction will also be allowed for related travel and accommodation costs unless there is some other purpose for the trip or you were accompanied by your spouse (in which case any costs relating to them must be disallowed).
Laundry and Work Clothes
A deduction will be allowed for dental specific clothing such as white jackets, but not for any normal items such as trousers, shirts and ties. As dental clothing needs to be washed on a regular basis, it is normal to claim a deduction for an estimate of the additional laundry costs for these items (unless cleaned externally in which case the actual expense would obviously be claimed).
Use of Home as Office
It is likely that you will have some work that you need to do at home, such as paperwork or technical reading. As a result it is normal to claim a deduction for the use of a part of your home as an office. In the same way as for the use of your car, an apportionment of costs is required based on the actual business use. Typically this will take the form of x% of the time of one room out of y rooms in the house. This proportion can then be applied to your heat and power bills and mortgage interest. For an associate, it is unlikely that the resulting figure will be substantial and HM Revenue & Customs scrutiny can be expected of any large claims.
Summary of Key Actions
• As soon as you become self-employed, ensure that you register with the HM Revenue & Customs.
• Open a business bank account.
• Make a monthly transfer to a separate interest bearing account to provide the funds for your future tax bills.
• Try to maintain your accounts on a regular basis
• Get your accounts and tax return prepared as early as possible to give the greatest notice of forthcoming tax liabilities.
We advise dentists to use an accountant to calculate tax and National Insurance contributions – especially in their first few years if they have recently moved to the UK.
The above article has been provided by Wilson Partners Ltd (www.wilson-partners.co.uk) who act for a number of dental practices.
Whilst every effort has been made to ensure the accuracy of the information in this article, it is only a general guide based on the position in September 2010. You should seek specific advice based on your own circumstances. No liability for loss from any action or inaction as a result of the contents of this article can be accepted by us, the author or Wilson Partners Ltd.
Wilson Partners Ltd can be contacted on 01628 770770 or by email at firstname.lastname@example.org. If you will be based within 25 miles of their office in Maidenhead, they offer a free meeting to PDS clients to discuss the tax and accounting issues of being a dentist in the UK.