Keeping records of your income when self-employed can be difficult. It’s not just about the money you make either, but your business expenses and all of this needs to be monitored to help you keep the info you need for HM Revenue and Customs (HMRC) when it’s time to file your self-assessment tax return as a self-employed person by January 31st.
So, how do you keep track of your income whilst working in self-employment? Let’s find out below.
Deciding on your accounting method
Your accounting period is the same each year in the UK – from April 6th through to April 5th. The 2021-2022 tax year runs from April 6th 2021 to April 5th 2022, for example.
But that’s all that remains the same in accounting. How you choose to keep your business records for accounting is really up to you. So let’s look at the options.
Traditional accounting is simply where you record all income and expenses based on when you were given the invoices or bills. Regardless of whether you are yet to receive payments or pay the outstanding bill yourself.
For example, you might have an outstanding bill from a supplier that was given to you on March 18th 2022, but they don’t want payment until April 18th 2022. Of course, you won’t be paying them until the next tax year, but you would still include the payments in this tax year in traditional accounting because you’re concerned with when the bill was given, not when it’s due.
Cash basis accounting
Cash basis accounting is where you record all income and expenses only when the bill has been paid or the money has been received. This is typically used by self-employed individuals and most small businesses earning less than £150,000 per year, as it means you pay less tax in the accounting period as you won’t need to pay income tax on business income that hasn’t been received yet.
What records do I need to keep?
Regardless of your accounting method, you’ll still need to keep similar records. Some will be needed for your self-assessment tax return, and others simply if HMRC launches an investigation into your business income.
Keeping inadequate business records can lead to hefty fines of up to £3000, so it’s in your best interest to brush up on your record-keeping and know what exactly you need to keep. A spokesperson from the Darlington Office of Auditox Accountancy said that 80% of self-employed people who came to them after they had started their business rather than before required almost double the workload to get back on track and so ended up costing them more in the long run.
Here’s everything you’ll need to keep records of:
- all sales and income
- all business expenses
- VAT records (if you’re VAT registered, not everybody is because not everybody needs to be)
- personal income (recording where you’ve put your own personal funds into your business, too)
- PAYE records (if you have employees)
If you’re using the traditional accounting method, you’ll also need:
- Info about money owed but not received
- Invoices received but not yet paid
- Value of stock at the end of the accounting period
- Year-end bank account balance
- Personal investment
- Business money used for personal use
Why is keeping records important?
Keeping accurate records is vital. It will help you fill in your self-assessment tax return but also helps HMRC work out how much income tax you will have to pay and the national insurance contributions you’ll have to make.
Without accurate records, you won’t be able to show every business expense and appropriate accounting records for HMRC to work out the taxable income you’ll pay tax on. You can read more here about bookkeeping.
Because you’re running your own business as a sole trader, you can claim business expenses, tax relief on pension contributions, and other benefits available to you that qualify you for some reduction in the amount of income tax you’ll pay that tax year. That’s because you haven’t taken home every penny of your income like you would do if you were employed by someone else, because some of your money has gone back into the business. HMRC needs to know about all of this.
By keeping accurate records and receipts of your business income and expenses, HMRC will be able to tell you how much tax you actually owe.
Below is a list of business expenses you’ll need to keep:
- Travel and accommodation
- Legal and financial costs
- Marketing costs
- Clothing expenses
Basically, if you have to spend money as part of your business, you should record that.
How long should I keep records?
As a small business or self-employed individual, you’ll need to keep all of your basic records for five years after the January 31st deadline.
That means all receipts, records, invoices, expenses, etc, for the 2021-2022 tax year (which is due by January 31st, 2023) will need to be kept until January 31st, 2028. This is a legal requirement and is non-negotiable.
What evidence do I need to keep?
For those five years, you simply need to keep all evidence of your business income and expenses. Evidence would include:
- receipts for goods and stocks
- bank statements from your business bank account (showing all account payments and income)
- cheque book stubs
- sales invoices (including own invoices you’ve sent out)
- physical receipts of cash payments
- paying in slips etc.
All of this information should show the date and information about the services that your business has paid for or your business has been paid for.
How to store this evidence
Ideally, self-employed people will store all of their record-keeping electronically, as this makes it much easier to send over to HMRC should they require it. Keeping physical copies isn’t always practical, and can result in loss or damage, which could see you receiving a hefty fine.
As Making Tax Digital is due to take full effect in April 2023, sole traders must get used to using tax software to store all their info for filing their tax returns.
Certain tax software will allow you to take pictures of physical receipts instead too, which just streamlines your record-keeping and makes everything easier.
So long as you record everything (electronically if possible), choose the accounting method that works for you, and keep accurate records of all expenses and income relating to your business for 5 years after the January 31st deadline of the tax year the records relate to, then recording your income whilst self-employed is easy enough.
Then simply use the information you’ve kept to tell HMRC via the self-assessment tax return, and you can be sure that you’re meeting all legal requirements! It really is as easy as that.