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I'm struggling to find an answer to this question that should be fairly simple and would massively appreciate some clarity :)

(Numbers are hypothetical to illustrate the point)

Say in a given tax year I earn £50,000 through employment taxed through PAYE as well as £10,000 through self-employment taxed through self-assessment.

Am I correct in saying that my tax-free allowance of £11,500 is used and because total earnings are £60,000 the self-employment income will be taxed at the higher rate of 40%?

It would make sense but it seems a bit bonkers to lose so much self-employment income as to make it almost not worth it.

Can someone please clarify what happens in this situation?

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Yes, that's right; in the end, tax is charged on the total of your income in a tax year. PAYE on employment income is just a way of making incremental payments throughout the year.

Note that tax rates are marginal rates applying to bands of salary, not the entire salary. But as your employment salary would be already over the 40% threshold (£45,000 for 2017/8), the entire "extra" from self-employment would indeed be taxed at 40%.

Note that you'll also owe National Insurance contributions. In general if your employed income is over the higher-rate tax threshold, it should be 2% Class 4 NICs on the self-employment income. However, due to various complications in the way the system works, you might be initially charged more than that and and explicitly claim the excess back from HMRC. It might also be less if your earnings are below or only slightly above the "Lower Profits Limit".

You still get to keep 58%, only you can decide whether that is worth your time or not.

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  • Can the NI be simplified to that degree? It's calculated on weekly amounts and there are different thresholds. Unless much mistaken in my previous experience the NI figure has ended up being around 9pc (ballpark) – marktristan Nov 24 '17 at 12:28
  • @marktristan Was your case on top of employment income that already breached the 45k threshold? Most of the references I've found online suggest that class 4 NI is assessed yearly on total income. But I don't have any personal experience of that part. – GS - Apologise to Monica♦ Nov 24 '17 at 13:27
  • I can't remember in detail but having always found NI insanely complex (so many tables, rates, ways of working it out) I was surprised you were able to give a straightforward figure in your answer! – marktristan Nov 24 '17 at 13:45
  • @marktristan I did some more research and you're right, it is complicated. But I think it can be simplified to 2% being the maximum you'd have to pay if your employed income already takes you over the higher-rate threshold. Apparently HMRC should get the calculation right when you fill in your tax return, but they might either only work it out later, or not at all: taxadvisermagazine.com/article/… . The full details are probably best suited for a specialised question on the topic! – GS - Apologise to Monica♦ Nov 25 '17 at 17:20
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    Importantly, this has nothing to do with being self employed or not. It is all about your income. If you get a raise or do overtime to get paid £60,000 a year, you pay the same tax (NI could be a bit different, but that's only 2%) – gnasher729 Nov 25 '17 at 18:55
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The only way you can save taxes is by starting a limited company, not paying yourself any salary, so you pay 20% corporation taxes, you can take I think £5000 a year dividends tax free, and leave the rest in the company account, and don't touch it until you make less money.

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