National Insurance is a deduction from earnings, set up originally to fund various State benefits such as the NHS, the State pension and other welfare-related schemes.
In reality, it is just another tax. In fact, as standard income tax rates have remained constant for many years, NI rates have soared.
In this guide we look at how National Insurance works, and what your National Insurance Contributions (NICs) will be as a small business owner.
Overview of the different National Insurance types
Class 1 NIC
Paid by employees and employers. These are calculated as a percentage of your wages, up to an upper earnings limit.
This is the most common NIC type. The primary contribution is paid by the employee, the secondary by the employer.
Class 1A or 1B NIC
A ‘special rate’ paid by your employer if you get certain benefits with your job, such as a company car.
The amount you need to pay is worked out on the value of taxable benefits you have received during the tax year. It is payable in the July after the end of the tax year.
Class 2 NIC
A compulsory rate paid by the self-employed. You are exempt if your earnings are below a certain limit.
The government announced in the 2016 Budget that Class 2 NICs would be abolished in April 2018 with, Chancellor George Osborne saying it would bring, “a simpler tax system and a tax cut of over £130 for each of Britain’s 3 million strong army of self-employed.” However, this decision was subsequently reversed.
Class 3 NIC
Voluntary Contributions. You can pay these to help fill gaps in your national insurance contribution record. HMRC may get in touch with you to suggest to top up your contributions.
Class 4 NIC
You may have to pay Class 4 contributions if you are self-employed and your profits are over a certain amount each year (see below for details).
NICs for sole traders (self-employed)
Sole traders pay income tax on their business profits (as self-employed individuals). In addition to income tax, self employed workers are liable to pay National Insurance Contributions (NIC’s).
- Sole traders pay Class 2 and Class 4 NIC’s and are required to pay contributions from the first day of self-employment.
- NIC’s are deducted from your gross earnings, assuming the figures are above the lower earnings threshold.
- Individuals who run a business via a partnership arrangement are taxed in the same way as sole traders.
- Class 2 National Insurance Contributions are £2.85 per week for the current tax year (2017/18), and are paid by anyone earning £6,025 or more through self-employment during the tax year.
- Class 4 National Insurance Contributions are paid on profits you make as a self employed person.
- The Class 4 NI rate for the 2017/18 tax year is 9% on all earnings between £8,164 and £45,000, and 2% on any earnings above £45,000.
You can view the full current NI rates and allowances on the Gov.uk website here.
NICs for Limited Company Directors
Unlike sole traders, for tax purposes, if you are a director of a limited company, you are an ’employee’ of the company. You are therefore liable to pay Class 1 NIC’s on your earnings. The limited company is also liable to pay Class 1 NIC’s as your ’employer’.
- Employees (Primary Class 1 Contribution) pay 12% on earnings between £157 and £866 per week (£680 and £3750 per month), and 2% above £866 per week for the 2017/18 tax year.
- Employers (Secondary Class 1 Contribution) pay 13.8% on earnings above £157 per week in 2017/18.
- You may be able to pay quarterly if you usually owe HMRC less than £1,500 every month. Contact HMRC’s payment enquiry helpline to request this.
- Limited Company directors and other employees may also have to pay Class 1A NIC’s for ‘benefits in kind’ such as a company car. Your accountant will declare such benefits each year on your P11D form.
For more details you can read HMRC’s Guide to NI for Company Directors.
More help on tax matters for small businesses
For help and guidance on other tax issues affecting small businesses, try some of ByteStart’s popular tax guides;
- Sole trader tax – a guide for start-ups and the newly self employed
- What is Corporation Tax?
- Dividend tax changes from April 2016 – A summary of the financial effects for small business owners
- ByteStart’s Guide to the main business taxes
- ByteStart’s 60-second guide to Value Added Tax (VAT) for start-ups and small businesses
Pay less tax
- 10 Ways small business owners can pay less tax
- Could you cut your tax bill by claiming some of these business expenses?
- Corporation Tax – How to reduce your bill
- Capital Allowances – A review of the various schemes available for businesses
- Using Research & Development tax relief to reduce your corporation tax bill
- A Guide to Bookkeeping for new business owners
- Setting up accounts for a sole trader – A beginner’s guide
- Book-keeping basics every new business owner must know
- How switching from spreadsheets to cloud accounting can help small business owners
- 15 Questions to ask before hiring an accountant for your small business