How Self-Employment Tax Works in 2025/26
As a self-employed sole trader or freelancer, you pay two things: income tax and Class 4 National Insurance. Both are calculated on your annual profit (income minus allowable business expenses), reported through a Self Assessment tax return. You pay by 31 January following the end of each tax year.
Income tax
Self-employed income tax uses the same bands as employment. You have a personal allowance of £12,570 — the first £12,570 of profit is tax-free. Above that, you pay 20% (basic rate) up to £50,270, 40% (higher rate) up to £125,140, and 45% (additional rate) above that. If your total income from all sources exceeds £100,000, your personal allowance begins to taper away.
Class 4 National Insurance
Class 4 NI is charged at 6% on profits between £12,570 and £50,270, and 2% on profits above £50,270. These rates were reduced from 9%/2% in the 2024 Autumn Budget. Class 4 NI does not build entitlement to the State Pension (Class 1 and Class 2/3 do) — it is simply an additional tax on business profits.
Class 2 National Insurance
Class 2 NI was effectively abolished from April 2024. If your profits are above the Small Profits Threshold (£6,725), you automatically receive NI credits for State Pension purposes without any payment. If your profits are below this threshold, you can pay Class 2 voluntarily (£3.45/week) to protect your State Pension entitlement.
Pension contributions and tax relief
Contributing to a personal pension reduces your adjusted net income. If you pay into a SIPP with relief at source, the provider claims 20% basic rate relief automatically. Higher and additional rate taxpayers can claim the extra relief through Self Assessment. Pension contributions can also be used to bring income below £50,270 (to avoid 40% tax), or below £100,000 (to preserve the personal allowance).
Frequently Asked Questions
How is self-employed tax different from employed tax?
As an employee, your employer deducts income tax and Class 1 NI via PAYE and also pays employer's NI (13.8%) on top of your salary. As self-employed, you pay income tax and Class 4 NI on your profits through Self Assessment, but there is no employer NI. This means your total NI bill is lower than an equivalent employed person, but you don't benefit from employer pension contributions or statutory sick pay by default.
What expenses can I deduct as a sole trader?
You can deduct expenses that are wholly and exclusively for business: office rent or a proportion of home office costs, equipment, software, professional subscriptions, travel (excluding commuting), marketing, professional fees (accountant, solicitor), and relevant training. You cannot deduct client entertainment, the cost of buying a business, or personal expenses. Capital items (computers, vehicles) may be deducted using the Annual Investment Allowance.
What is a payment on account?
If your Self Assessment tax bill exceeds £1,000, HMRC requires advance payments towards next year's bill. You pay 50% on 31 January and 50% on 31 July. In your first year of self-employment (January payment), you pay your current year's bill plus 50% as the first payment on account — effectively 150% of a normal year. This catches many new self-employed people off guard, so it is important to budget for it.
Should I set aside money for tax throughout the year?
Yes — this is one of the most important habits for self-employed people. A common rule of thumb is to set aside 25–30% of every invoice into a separate savings account. For higher earners (over £50,270), consider 35–40%. This ensures you always have enough to cover your tax bill without having to find a large lump sum in January, and the savings will also earn interest in the meantime.
Do I need to register for VAT?
You must register for VAT if your taxable turnover exceeds £90,000 in any rolling 12-month period. Below this threshold, registration is optional. Once registered, you charge VAT on sales, reclaim VAT on business purchases, and submit quarterly returns. The Flat Rate Scheme simplifies VAT for businesses with turnover under £150,000, and may be financially advantageous depending on your sector.
What is Making Tax Digital for income tax?
Making Tax Digital for Income Tax Self Assessment (MTD for ITSA) is HMRC's initiative requiring self-employed people and landlords with income over £50,000 to keep digital records and submit quarterly updates to HMRC from April 2026. From April 2027, the threshold drops to £30,000. This will replace the current annual Self Assessment return for those affected. Software such as QuickBooks, Xero, or FreeAgent will be required.