Optometrists advice – self employed or company?

To incorporate or stay self-employed?

Did you know, as a nation, on average, we waste £421 per taxpayer by not taking advantage of available tax reliefs (according to www.unbiased.co.uk). Whether you are a self-employed optician or running a limited company, tax will be payable in respect of your profits, each year. This article highlights matters to consider for opticians working as self-employed individuals and via a company.

Tax considerations for self-employed opticians

Self-employed individuals must complete a personal tax return before 31st January each year (reporting income and expenses for the previous tax year), pay any tax due and make two payments on account per year on 31st Jan and 31st July.  To clarify, tax returns are always a year behind, so the tax returns due by 31 January 2022, will be for tax year 6 April 2020 to 5 April 2021. 

A self-employed optician pays Income tax, Class 2 and Class 4 national insurance contributions (NICs) in respect of their profits. As a rough guide, the combined rates of tax and NICs for 20/21 tax year are:

  • from £9,500 to £12,500 – 9%;
  • £12,500 to £50,000 – 29%;
  • £50,000 to £150,000 – 42%,
  • and above £150,000 is 47%.

Tax considerations opticians operating via a company

If you are using a limited company, you will need to file annual accounts and submit a tax return. The filing deadlines for company accounts are 9 months after the accounting period end (unless a large company), and tax returns are due 12 months after the accounting period ends.

A company pays corporation tax (CT) on its profits at a rate of 19%.  There is a second layer of tax (i.e. personal tax) payable when the director (who is also the shareholder in the case of most opticians) withdraws some or all of the after-CT profits from the company. For opticians using a company, there is a degree of flexibility regarding how and when the profits are paid to the director/shareholder.

Self employed or company – which is better for me?

The answer varies depending on your personal circumstances. In both cases, your taxable profit is calculated as your income minus any allowable expenses. There are two types of expenses; Allowable and Disallowable. Allowable business expenses are those that relate to things you need to do your job and make a living. For example, annual membership fees for the General Optical Council, Association of Optometrists, Association of British Dispensing Opticians subscriptions or taking a course with Optom Academy.

Disallowable expenses are items that relate to private use or have a dual purpose. These cannot be claimed as business expenses, and the most common area where there is the business and private use of your car. For example, you will incur costs of maintaining and using your car. However, only expenses related directly to your business will be deductible from your trading income, not your entire expenditures in relation to your car.

Whether you are self-employed or run a company, allowable expenses have the effect of reducing your tax liability. As a general point, It is important to ensure you maintain good records and keep any receipts to act as proof of expense. If you think an expense is disallowable, it might be sensible to keep the receipt until you have discussed this with your tax adviser. 

Let’s look at an example

We’ve not yet answered the question of which is better, so let’s look at some numbers to clarify the points above. For the purposes of this article, let us assume that the earnings are £63,816 per annum, the annual expenses add up to £3,816. This would leave a profit subject to tax of £60,000 (i.e. annual salary of £63,816 less expenses amounting to £3,816). Below are some high-level calculations of tax impact under both scenarios, i.e. self-employed versus a limited company.

Sole Trader Limited company
£   £
Profit 60,000 60,000
Additional accountancy fees -£1,200 1
Salary -£8,788 2
Adjusted profits 60,000   50,012
Less:
Corporation tax (@ 19%) n/a -£9,502
Income tax (@20%/40%) -£11,500 3 -£2,652 4
Class 2 NICs (£3.05 per week) -£159
Class 4 NICs -£3,845 5
Net cash £44,496 6 £47,360 7

Notes:

1 – this is an estimated amount; the accountancy fee will vary depending on your tax adviser.

2 – the maximum salary that can be paid without triggering a tax or NIC for 20/21 tax year is £8,788.

3 – there is a personal allowance of £12,500 available to each taxpayer for income tax purposes. The next £37,500 is taxed at 20% and anything above, up to £150,000, is taxed at 40%.

4 – a popular tax-efficient profit extraction strategy used by personal companies is to take a small salary and extract further profits as dividends. In the example above, all profits after-CT have been taken out as dividends. The 2020/21 dividends are taxed at 7.5% up to £37,500 and 32.5% up to £150,000 taxpayers. There is a separate tax-free allowance of £2,000 for dividends.

5 – self-employed individuals are liable to Class 2 and Class 4 NICs. Class 4 NICs are taxed at 9% on profits between £9,501 – £50,000, and 2% on profits over £50,000. This is payable together with your income tax.

6 – personal tax return and the payment in relation to the example will be due on 31 January 2021. The first payment on account in relation to 2021/22 tax year will also be due on this date.

7 – company accounts will be due for submission to Companies House by 31 December 2020. Corporation tax payment will be due by 1 January 2021 and Corporation tax return will be due by 31 March 2021. In addition, the personal tax deadlines above in note 6 will also apply in respect of the salary and dividends taken from the company during the year.

Concluding thoughts

In the example above, the company option appears to be favourable as the individual is £2,864 better off. In my opinion, the main advantage of operating as via a limited company over a sole trader is that the corporate structure gives you flexibility in how much income you take out of the company. In the example above, we’re taken out all the after-CT profits (£49,298) from the company, but what if you decide that £30,000 is sufficient for you for a particular year. The remaining profits will stay in the company without further taxation.

A word of caution though, if your trading profits are at a level below the profits in the example above, then the extra taxation elements of running a company, would make this an unattractive option from a tax perspective. Therefore, each individual must take advice in relation to their circumstances.

About the author

Shoaib Khan is an experienced tax adviser. He has many years’ experience advising individuals and their businesses in relation to tax affairs. He studied Accountancy at the University of Liverpool before starting his tax career at PwC in 2011 and then spent 4 years at Deloitte. He’s a senior tax adviser at Black Swan Tax Advisers and can be contacted at shoaib.khan@blackswantax.co.uk.