Who is self-employed?
A self-employed is an individual who runs a business on their own as an individual rather than through a limited company.
Allowable expenses, as defined by the HMRC, are expenses that are incurred wholly and exclusively for the purpose of a trade or a profession.
Principle of “wholly and exclusively”
The principle of “wholly and exclusively” is a key concept in determining what expenses can be considered allowable for tax purposes. To qualify as an allowable expense, an expense must be incurred solely for the purpose of the trade or profession and not for any personal or mixed purposes. For example: If a sole trader incurs expenses to purchase a computer or printer that is solely used for business purposes, this would be considered an allowable expense.
An expense is not permissible if it is not “wholly and exclusively” utilised for business reasons.
- Money withdrawn from your business to pay for personal items is not considered an allowable cost.
- A disallowed cost cannot be deducted to lower your taxable income.
“Wholly and exclusively” test
In order to pass the “wholly and exclusively” test for an expense to be allowed for as a deduction against taxable profits of the business, you will need to consider the following.
You need to determine whether the sole purpose of the expenditure was for the purposes of the trade, profession or vocation. If you determine that the expenditure did not have a business purpose, then it will be disallowed by the HMRC. For example, you take your friend to lunch and pay by business card, or you go to the gym and pay by business card.
If the sole purpose of the expenditure is for business, but you get some incidental benefit, HMRC will still allow that expenditure as a deduction against your taxable profits. Any associated incidental benefit will not render the expense disallowable.
For example, a professional photographer may travel to tourist locations to work on projects. Travel to scenic locations may be beneficial, but where there is no private reason, they are consequent to the carrying on of the profession, and the expense is allowable.
Apportionment and duality
You may incur expenses which are partly for business purposes and partly for private. For example, you may use your personal phone to make personal calls as well as business calls. In such situations, you need to identify the definite part of the expenditure whose sole purpose is for the business by using a reasonable basis of apportionment. In the above example, you can separate your business calls from the mobile calls bill and be able to claim only that expense. Similarly, you may use your personal car both for private and business purposes and be able to claim the business part by keeping track of business journeys.
On the other hand, if the definite business part is not separately identifiable, then HMRC will disallow the whole expenditure. HMRC calls this sort of expense where this separation is impossible dual-purpose expenses. For example, you go on a business visit to Scotland and stay there for a few days on holiday. Now the train journey to Scotland has a dual purpose and cannot be separated between the private purpose and business purpose. The train ticket will be disallowed by the HMRC.
It is not always easy to keep business and private expenditures separate, particularly, if the business is small and runs from home.
It is also important to keep business and private expenditures separate so that business expenses are not met from a personal account and overlooked. A common example of this may arise if a mobile telephone is used for both business and personal calls. From the bill, it will be possible to identify the private calls and the business calls and the cost of each.
Common allowable expenses
The following is a self-employed allowable expenses list of the most common you may deduct from your taxable profit:
|Legal and professional fees||Accountancy and certain legal expenses are usually deductible. Examples include Debt collection, HR-related issues etc. Please note that legal and professional fee on capital items is not allowed. Capital items are generally items on which expenditure is specifically disallowed by law. e.g. legal fee paid on the purchase of business property|
|Premises||You may claim rent, council tax, gas, electricity and interest on mortgage expenses if you have an independent business premise. General repairs on the property are allowable as well. However, improvement to property is disallowed.|
|Bank Fees||Overdraft fees, loan interest rates, credit card charges, and other banking expenses incurred on business bank accounts.|
|Travel||If you must travel for business, you may deduct several allowed expenses, such as train, bus, taxi, flight, and lodging fees.|
If you are travelling for both work and pleasure, you can only get tax relief on the expenses you can prove are unrelated to your private travel. Staff entertainment is allowable. However, client entertainment is specifically disallowed by HMRC.
|Phone and internet||When you use your phone, mobile, and internet for personal and business purposes, you’ll need to show a valid way to split the costs, and you can only receive tax deductions on the part you used for business.|
You can’t get any tax deduction back if you can’t show this.
|Car and vehicle||If you use a car for your business, you may get deductions for expenses such as:|
|Staff costs||If you have employed people in your business, their cost is allowable as a deduction against the taxable profits of your business.|
|Donations and subscriptions||If you pay donations to charities for trading purposes, then it will be allowable. Normally, there is an element of advertisement in these donations. Charities must be registered under the gift aid scheme. Political donations are, however, disallowed.|
|Subscription to software and digital services||You can claim expenses on software and digital services required for the operations of your business.|
Not-so-common allowable expenses
Following is a list of fewer known expenses which are allowed by the HMRC as a deduction against taxable profits of self-employed businesses.
|Membership subscription to professional bodies||Membership fee paid to professional bodies is allowed.|
|Use of home as office expenses||If you are using a room in your home for business-related work, you can claim some of the rent, council tax, utilities and interest on the mortgage. You need to identify the part of these expenses which are related to business. Usually, the number of rooms and the time spent on business-related work is used to calculate the business-related allowable costs.|
|Uniform cost||You can claim the cost of your uniform or protective gear you need to wear for work.|
|Bad debts||Money lost by you due to clients not paying their debts is an allowable deduction. However, a write-off debt due to reasons other than the financial position of the debtor will render the deduction not allowable.|
|Training and development costs||Any amount you spend on courses, workshops and seminars that are directly relevant to your business is allowable. The training must improve the skills you use in your business for it to be allowable. Training costs relating to starting or expanding a business are not allowed.|
Aware of the fact that it is difficult for self-employed people to take time out and keep records of every expense, HMRC has allowed self-employed people to use simplified expenses. Under simplified expenses, a flat rate is used to calculate allowable expenses rather than calculating the actual cost. It is optional.
The following are types of simplified expenses:
Flat rate expenses for business use of vehicle
If you use your vehicle for business, you can claim a flat rate expense instead of calculating the actual cost. The flat rate varies depending on the type of vehicle, and the number of business miles travelled. For the first 10000 business miles, the flat rate is 45 pence, and anything above 10000 is allowed at 25 pence.
Flat rate expenses for business use of home
If you work from home, you can claim flat expenses based on the number of hours you work from home each month. The monthly rates are as follows.
|25-50||£10 per month|
|51-100||£18 per month|
|101 or more||£26 per month|
Expenses for the private use of business premises
If you live in your business premises, you can claim a percentage of your household expenses as business expenses. Instead of working out the separation between what you spend on private and business use of the premises, you can use the simplified method.
Under simplified expenses, you need to calculate the total expenses for your premises. Then use the flat rates to deduct an amount for your personal use of the premises, based on the number of persons living on the premises and claim the rest as your business expenses.
|Number of people||Flat rate per month|
Keeping accounting records
It is very important that you keep proper track of all your business expenses to be able to maximize your tax deductions. You are not required to provide any supporting evidence for the expenses you incurred while completing your tax return. Nevertheless, you should have supported evidence if the HMRC questions your claims. It is important to keep the record for at least 5 years.
In conclusion, as a sole trader, it is important to understand the distinction between allowable and disallowable expenses. It is also essential to ensure that all expenses are “wholly and exclusively ” incurred for the purpose of business or trade.
By keeping accurate records, sole traders can ensure that their tax return is correct and up-to-date. This will help to ensure that all deductions for allowable expenses can be claimed accurately and promptly.
At Fusion Accountants, we understand the unique needs of sole traders. Over the years, we have helped our self-employed clients to reduce their tax liabilities by maximising their tax-deductible expenses.
Contact us today to find out how our team can help you with availing of all the available tax deductions.