Contractors, regardless of whether they intend to operate through a limited company or umbrella company, are required to pay income tax just like any other income-earning individual in the UK. The actual amount that needs to be paid is dependent on the amount that the individual is earning, with increasing income accompanied by increasing tax percentages.
However, there are certain ways of legally minimizing the tax payable, which is referred to as tax mitigation.
Minimize Tax Payments
Mitigating tax and the various ways this is done is not just limited to the minimization of income tax but can also be used to limit inheritance tax and corporate tax. When it comes to contractors though, the main concern is income tax or corporate taxes (if you are running it through your own company). Tax mitigation is not the same as tax evasion (which is illegal) and can come in many different forms – including simple measures such as ensuring you understand the various tax allowances and advantages associated with being a contractor.
Contractors, like any other individual in the UK, are able to claim an annual allowance in the form of a lump sum that you can earn that you would not be required to pay tax on. In 2012, the basic personal allowance was increased to £8,105 . This means that if you earn £8,105 or less within a tax year then you will not have to pay any tax on that amount and even if you earn over that amount you will only have to pay tax on the additional amount.
Claim Expenses
Another form of limiting the amount of tax you would be required to pay is through the claiming of expenses. It’s important to ensure that your expenses are completely genuine because this is an area that the government is increasingly trying to crack down on.
However, as long as they are expenses incurred in the course of your work you can claim the tax allowances for expenses such as accommodation, meals, travel and subscriptions to professional organisations and publications.
If you join an umbrella company then they will often keep you informed on what expenses you can claim and process the claims on your behalf. However, if you are operating through your own company, it is important to research what you are entitled to claim for in order to ensure the minimum tax liability.