Download and read our latest newsletter now

Read our latest Financial Focus newsletter.

Download our newsletter >>

Thinking about becoming self-employed?

Every year, thousands of people decide to set up their own business. But moving from an employed position to self-employment requires some careful financial planning, particularly in these difficult times. We take a brief look at some of the financial issues that those considering becoming self-employed need to know.

National Statistics record that between December 2008 and February 2009, nearly 4 million working people in the UK were self-employed. This figure is likely to rise as increasing numbers are unemployed or made redundant and decide to go it alone. Although one of the main attractions of becoming self-employed is no longer having to work for somebody else, it also comes with many more financial and legal responsibilities.

There are several disadvantages you should consider which include not being certain of having a regular income, having to arrange your own sick pay and pension and probably having to work long hours. As it is extremely important that accurate and detailed records of the business arekept, new skills will have to be learned.

Tax

It’s important to let HM Revenue & Customs(HMRC) know that you’re self-employed as soon as possible - even if you already fill in a tax return each year. If you don’t tell them within three months of the end of your first month in business you could face a penalty.

Once you’re registered as self-employed, you are responsible for paying your own tax and National Insurance contributions. You’ll need to keep business records and details of your income so you can fill in an annual Self Assessment tax return.

If your business turns over £68,000 or more on a rolling twelve-month period, you will need to register for Value Added Tax (VAT). You can register voluntarily even if your turnover is lower than this, the advantage being you’ll be able to claim back VAT on relevant purchases you make.

But be prepared for even more paperwork as you will now have to submit a quarterly VAT return to strict deadlines. Full details can be found at www.hmrc.gov.uk/vat/start/register/index.htm and other useful information and help on tax issues can be found at www.direct.gov.uk.

Expenses

The good news is that HMRC updated its Business Income Manual in January 2007, making it possible to claim more expenses in relation to self-employed home working than in the past. For example, you can now claim a proportion of telephone fixed line rental on a domestic phone.

Other expenses you can claim include broadband used for business purposes, professional fees such as accountancy costs and book-keeping and office and printing supplies. For excellent help and advice on this and other tax issues, visit the website www.businesslink.gov.uk.

Protection

Another factor to consider if you are taking the self-employed route is which employee benefits previously offered by your employer you will need to replace. These often include “death in service” life insurance, accident insurance, sick leave and sometimes even private healthcare.

Rather than seeking to directly replace these benefits, you need to review your actual requirements for your new situation, and this is something you really should take professional advice on. For example, while simply replacing a death in service benefit with a new term insurance policy will give family security, the level of sum assured could now be inappropriate based on your actual liabilities and family capital or income requirements.

Other forms of financial protection that the self-employed should give serious consideration to are critical illness cover and income protection. As you no longer have the safety net of statutory sick pay in the event of being off work through illness or injury, you now need to make provision for this possibility yourself.

Income protection will pay out a monthly income if you are unable to work because of sickness, while critical illness cover will pay out a lump sum following diagnosis of one of a set of specified illnesses. These insurances complement each other and we would be pleased to offer you some advice as to which would benefit your individual situation the most.

Pensions

Prior to becoming self-employed, you may have belonged to a company pension scheme where your employer made contributions on your behalf. You will now need to take account of the fact you will no longer benefit from these additional contributions when considering retirement planning.

Pension contributions might be low on your list of priorities at first. They are seen as an expense that can be done without when starting out on your own. However, leaving it for too long before contributing to a pension will be detrimental to your income prospects in retirement.

When you are ready to restart pension contributions, we should sit down and review any existing pension benefits as this is also a good opportunity to consider consolidating any different pension arrangements you may have, to apply a consistent investment strategy to your entire pension fund.

Home insurance

Another advantage of being self-employed is that you might be able to run your new business from home, with the advantages that brings. However, you will need to make sure that the tenancy agreement, mortgage agreement or title deeds of the property do not place any restrictions on business use. More information on premises can be found under the “Employment” section on www.adviceguide.org.uk where you will also find a useful self-employed checklist.

If you work from home, your conventional contents insurance may not be sufficient to cover the new risks to your property. For instance, business data that you hold on your computers or in your filing cabinets may be at risk from a computer crash, fire, flood and other contingencies. Or you may store goods, samples and materials on the premises which would not be covered under your usual home contents insurance policy.

You will also be responsible for the physical welfare of clients and staff who enter your premises. Check the small print on your home insurance and take advice as you may find you need a different plan.

Help

Starting and managing a business takes motivation, desire, and talent. It also takes research and planning. You have the ability to be far more flexible in your schedule but you may find you end up working longer hours. Holiday pay, “time off” and “perks” will become things of the past. Being self-employed does not mean you will be self-reliant. But being your own boss can be a very rewarding thing too, and with the right help such as:

• A solicitor for the legal side of things,
• An accountant for tax and financial records
• Ourselves for your protection and pension planning

Your path to successful self-employment, job satisfaction and independence will become that much smoother.

This article has been included for general interest purposes only and we are unable to provide specific advice on some of these matters. HM Revenue and Customs practice and the law relating to taxation are complex and subject to individual circumstances and changes which cannot be foreseen

This article was taken from Seneca Reid's Summer 2010 newsletter.

Seneca Reid Ltd is an appointed representative of Openwork Limited which is authorised and regulated by the Financial Services Authority.

The information on this website is for the use of residents of the United Kingdom only. No representations are made as to whether the information is applicable or available in any other country which may have access to it.

Openwork Limited offers insurance and investment advice on products from a limited number of product providers and advice on mortgages representative of the whole market.