Advice if you’re starting your own business

Britain’s unemployment rate is soaring; with figures showing that 3,178 people were made redundant every day in the three months to the end of March.

Many of those finding themselves out of work are opting to set up on their own or go freelance, rather than hunting for a new job in the current economic climate.

For a lot of people, going it alone inspires dreams of independence and achieving the perfect work-life balance.

However, competition can be fierce for this very reason. And there are other disadvantages to being self-employed, such as missing out on employee benefits including sick leave and having to work out your own tax bill.

Here, we investigate the various pros and cons of becoming self-employed.

Why should I go freelance?

As well as the flexibility of working for yourself, one of the big advantages of turning freelance in difficult times is that you can work for more than one employer. This means that even if one of the companies that you contract for experiences financial difficulties, you will not necessarily be adversely affected as it won’t be your sole source of income.

Freelancers are also generally paid more by the hour than their permanent counterparts, although your monthly income will fluctuate so it is a good idea to have a slush fund set aside to cover your living costs during those inevitable quiet times.

Will I be well suited to working freelance?

Some industries are better suited to freelancers than others; for example, writing and editing, web design and consulting and administration all work well.

It is therefore important to research how much work there is available and how much competition you would face from established freelancers.

You also need to be sure that you can motivate yourself to work from home and manage your own accounts, and that you have the necessary equipment to perform your role. Contacts and networking skills are also vital when it comes to finding work.

Finally, some people find the life of a freelance lonely, and miss the buzz of working in an office, while others place a lot of importance on workplace benefits such as paid holidays, pensions and healthcare provisions. Losing these is another potential disadvantage to bear in mind.

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What are the tax implications?

It is important to register yourself as self-employed with Revenue & Customs as soon as possible as you can be penalised for not doing so.

You will then have to complete a self-assessment tax return – which can be done online as well as in paper form – on an annual basis.

The income tax rates and allowances for self-employed workers are the same as those for employees: For the 2009-10 tax year, those earning up to £37,400 pay the basic rate of 20%, while people earning over that amount pay 40%. From 2010-11, anyone earning £150,000 plus will also be liable for 50% tax on income above that amount.

You are obliged to make National Insurance contributions (NICs), which go towards benefits such as the state pension and Jobseeker’s Allowance, as well as paying tax, so don’t forget to factor this into any budgets.

These do differ from those paid by employees as most self-employed workers are liable for Class 2, rather than Class 1, NICs. These are currently set at a flat weekly rate of £2.40.

Those earning profits of between £5,715 and £43,875 may also have to pay Class 4 NICs at a rate of 8%, or 1% on profits above the £43,875 limit.

However, you do not have to pay Class 2 NICs if you earn less than £5,075 this tax year and have a Small Earnings Exception Certificate.

The other good news is that you can offset relevant expenses, including travel, phone calls and in some instances clothing, against your tax bill. People working from home can also offset an amount for “use of home as office”. An accountant will be able to advise on what you can and can’t offset against your tax bill.

What about VAT?

You must register yourself for VAT, which is payable on the majority of business transactions that involve the transfer of goods or services, if you earn £68,000 or more.

However, you can de-register if your earnings drop back and you expect them to remain below the VAT threshold. If your anticipated turnover for the next year will not exceed £66,000, you can then cancel your VAT registration voluntarily.

However, even if your turnover has not reached the level required, you can choose to register on a voluntary basis, as this may have benefits for the business.

Visit the Revenue & Customs website to find out which of the various VAT schemes is most suitable for you.

Do I need a business bank account?

If you are a sole trader or an informal partner in a business, and you have a personal cheque or deposit account, your clients or customers can write their cheques to you personally for you to bank them in your personal account.

However, opening a business bank account is the simplest way to provide the transparency required by government departments, creditors and auditors that need to assess your business.

A business account will also give you credibility as your bank has, to a degree, assessed and accepted your business proposal, and this may well prove necessary if you want to apply for a business loan.

For information on the best business bank accounts, visit our business banking channel.

What finance options are available for start-ups?

You have a variety of options for raising the money to start up a new business. If, for example, you have a redundancy payment, you could put it to good use by investing it in your business.

Banks and other lenders have become more wary about handing out business loans since the onset of the credit crunch, but recent statistics show that they are starting to lend in this way again. Having a sound, detailed business plan that includes proof of market research and ongoing budget considerations will greatly improve your chances of a successful application.

But banks are not the only source of business finance.

Angel investors, or business angels, usually provide funds in exchange for a small stake. They typically invest between £10,000 and £750,000 and are often just as valuable for their contacts, insight and experience as for the investment they can offer. Venture capitalists, on the other hand, may demand a large percentage of your business in return for their investment, so make sure that you have a clear understanding of their expectations before agreeing terms.

There is also an Enterprise Finance Guarantee scheme that aims to help smaller credit-worthy companies that are unable to obtain a conventional loan because of current tight lending conditions.

What about grants?

Applying for finance through a grant scheme can take some time, but there is a wide range of grants and support schemes available for those setting up small businesses.
 
Some of these are national schemes, while others are specific to certain areas of the country. Check out the government’s Business Link service for a comprehensive list.

I am setting up a business. Should I register it as a limited company?

The majority of small businesses start as a sole trader, and some continue using the status indefinitely.

But there are some advantages to setting up a private limited company, including the owners or shareholders of the company having a certain amount of protection in the event of company failure. In other words, your personal assets and possessions can’t be seized unless you have agreed to this to pay off company debts.

Becoming limited can also inspire confidence in your suppliers and clients; some large organisations will only deal with limited companies. As limited companies pay corporation tax only on profits, it may also reduce your overall tax bill.

When registering a limited company with Companies House you will have to pay between £20 and £50, depending on factors such as the speed with which you require the registration to be processed.

If I work from home, how will that affect my home insurance?

If you are working from home, it is a good idea to keep your home office space separate from the rest of your house. Allocate a room as your study or office that is solely for that purpose, otherwise you may find that work encroaches too much into your personal life.

Any extra equipment that you need for work purposes, such as a new computer, may also need to be listed on your home insurance as many insurers only provide cover for big-ticket items that are named on the policy.

You should also check with your home insurer if you intend to have clients visiting your home, as this may affect the terms of your cover.

What about other financial arrangements?

Make arrangements for a pension scheme and other insurance policies that normally would be provided by an employer. It is vital that you are adequately covered should you be unable to work for any significant length of time.

You should also check out any government benefits that you may be entitled to such as Family Tax Credit or Child Tax Credit.

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