For most contractors, tax is something they both accept they have to pay and worry about. Tax legislation is much more complex than a single sided piece of paper. Contractors have a chance to enjoy better tax arrangements than their full-time employed colleagues. Albeit at the expense of holiday pay, sick pay, and other benefits enshrined in employment legislation.
At Umbrella Broker, our partners have worked with tens of thousands of contractors. They submit their returns on time and pay no more tax than they need to. In this article, we share our top tips on avoiding the tax errors most commonly made by contractors on their tax returns.
Self-assessment and limited company accounts
Both sole trader contractors and limited company contractors need to file their self-assessments for the previous tax year by January 31st. Limited company contractors need to make sure that the Company Tax return is filed on time. Their corporation tax liability is paid no later than 9 months after their year-end.
The figures on your form must be correct or there will be a heavy price to pay (source: IT Contracting). There are a series of fines for missing deadlines for submission. See what you will have to pay here for submitting your self-assessment late.
On your self-assessment you have to declare everything. From tax reliefs, interest and capital gains on shares, stock dividends, and more. Many contractors inadvertently don’t include other required information. Including pensions income, capital gains, dividend income, rental income, and, even, some government benefits.
The self-assessment form is a form that accountants are qualified to fill in and the government expects everyday citizens to get right first time.
Making mistakes with expenses and poor record-keeping
In the same vein, you should work with your accountant. Make sure that you’re only claiming on the correct expenses (this will save you money). That your record-keeping is to the required standard.
We highly recommend FreeAgent, an online bookkeeping system, to our clients. FreeAgent allows you to record everything from your salary to your sales revenues to interest payments received. As HMRC moves towards Making Tax Digital, the amount of information you’ll have to keep on individual transactions will increase exponentially. HMRC will expect that you have this information to hand if you’re subject to an investigation.
There are many expenses you can claim as a contractor and it’s easy to add transaction information and receipts to FreeAgent
Not distinguishing between personal and company money
If you are a limited company contractor, you’re fine to withdraw money from your limited company as dividends. Only if there is retained sufficient profit in the company (source: IT Contracting).
But be careful how you do it. Past performance is no guarantee to future performance. If your sales receipts have been high for the last few months, there is nothing set in stone to say that this is going to continue ad infinitum. If you take out too much money, you may find yourself struggling to pay suppliers, PAYE, VAT, or even corporation tax. Whilst HMRC are generally very good at helping with “time to pay” arrangements. It’s always better to get a big bill completely out the way so that you never have to think or worry about it again.
Ignoring the potential consequences of IR35
IR35, the Intermediaries Legislation, was introduced around twenty years ago. To stem tax losses incurred by HMRC when employees became self-employed contractors but whose responsibilities were the same as when they were employees.
In a recent Pulse Accounting article, they demonstrated how a contractor caught on the wrong side of IR35 would face an additional £4,665 bill for taxes per annum. Application of the law is confusing. Quite often, the tax tribunals disagree with HMRC’s assessment about an individual contractor’s IR35 status. Unfortunately this haphazard situation has been going on for years.
From April 2017, tougher rules designed to catch more contractors was introduced in the public sector with those reforms being extended to the private sector from April 2020.
The Loan Charge – using a tax mitigation scheme that seems too good to be true
It’s the stuff of a Kafkaesque nightmare. The state tells you that it doesn’t like something you’re doing but it allows you to do it anyway without consequences. Then, after 19 years of doing this something, you’re now told it is illegal and it has been illegal for the last 19 years. You’re going to retrospectively pay the price for this course of action. You’re going to face the consequences you were told you did not have to fear.
Tax schemes like Employee Benefit Trusts were utilised by thousands of contractors to reduce their tax bills. Often completely legally at the time. In essence these schemes allowed members/employees to receive a loan instead of wages supressing their taxable income.
DOTAS – Tax Avoidance Scheme
Such was the government’s complicity in allowing these schemes to exist (despite protesting that they did’t like them), that many schemes were openly registered on the government’s “DOTAS” (declaration of tax avoidance scheme) program that operated as a “rubber stamp” of approval in many scheme sales pitches.
However, after sustained pressure from HMRC. These schemes have been declared illegal under the Finance (No 2) Act. HMRC have been given the power to convert those “loans” into wages going back to 1999. In essence, despite not breaking the law from 1999 to 2019, HMRC now has the power to pursue scheme users as if they had.
People who were members of such schemes now have to pay the unpaid tax on what is now classed as salary (including both forms of National Insurance). HMRC have demanded tens of thousands of pounds. Sometimes hundreds of thousands of pounds, from contractors involved in the schemes. Many of whom were forced to do so against their will by their clients or agencies (who were financially incentivised to promote the schemes) lest they miss out on work.
The 2019 Loan Charge has had a devastating effect on many contractors’ lives. Sadly driving some to the brink of suicide and financial ruin. If you have been affected, please contact us. Alternatively, you may wish to contact the Loan Charge Action Group for further information.
Avoid common contractor tax errors by partnering with contracting experts Umbrella Broker
