Budget planning (self-employed) – calculating net income?

bpk101

Hi,

I operate as a self-employed freelancer and i’m trying to create a personal budget planner for the new upcoming tax year 2022 / 23. Because i’m self-employed i need to base all my budgeting on projected earnings, which thankfully is fairly straightforward as my earnings have been pretty consistent over the last 5 years. 

To arrive at a projected take-home-pay figure to build my budget around, i need to first work out how much tax and NI i’ll likely have to pay which is what i need a bit of help with…

Based on projected annual earnings of £70,000, do i simply deduct my projected business expenses (for this illustration let’s say they will amount to £1000 for the year) plus my projected SIPP payments (£6000 for the year @ £500 a month) to arrive at a total amount of taxable earnings?

With regards to SIPP payments, whilst my personal contribution will be £500 a month i will of course get tax relief on that. Do i need to factor in this additional tax relief before i calculate my total taxable earnings? I know pensions use either a Net Pay method or a Relief at Source method but i’m unsure what would apply to me (FYI - i’m starting a pension in the next few weeks and it will likely be a Vanguard Target Retirement Fund or similar).

Finally, what calculations do i then need to deduct NI Contributions given the 1.25% increase happening this April?

So in nutshell… on projected gross earnings of £70,000, how do i arrive at a projected net amount after Tax, NI and Pension contributions have been deducted? 

Thanks.

blue.peter

I'm only going to address your question about pensions tax relief, because I don't think I can help much with the rest.

Basic rate tax relief is granted at source on SIPP contributions. You deduct 20% from the gross contribution, and the pension provider reclaims that much from HMRC. So, for a gross contribution of £500, you pay the provider £400 (£500 * 80%). If you're a higher-rate taxpayer, you would then claim the difference between basic rate and higher rate via your tax return. That might be an additional 20%, or even 25% if you pay additional rate. Remember to claim that on the gross contribution (£500 in my example), not the amount that you actually paid to your provider (£400).

There's a government web page about it here.

The Net Pay arrangement is only relevant to employed people, so you should forget about it.

NSG666

A little bit confusing when you talk about gross earnings when your starting point for tax should be taxable income.
Taxable income = business receipts less business expenses = profit
plus any other income you might (not) have.
There's a UK gov calculator here
HM Revenue & Customs: Self-employed ready reckoner (hmrc.gov.uk)

It's for 2021/22 but only the NI rates are changing for 22/23 and on 65k you'll pay c. £650 more than the above calculator.

Have a look at the article below ref higher rate tax payers which also has a link to a calculator for the tax relief.

Higher rate taxpayers – are you missing out on your pension tax relief? | Hargreaves Lansdown (hl.co.uk)

Your post tax, NI and pension calculation will be
Taxable income
less HMRC calculation above
less £650-700 (additional NI)
less £6000 pension contributions
add £1500 (higher rate tax relief you will claim via self assessment as per HL calculator (use £7500) reducing the HMRC figure)

Hope this helps

bpk101

Thanks, I’ve worked it out now but just as an aside question - and it might be a daft one(!) - what would be the best method of budgeting for a freelancer like myself…

1. Base my new monthly budget for 2022/23 on projected annual earnings for the same period i.e. what I think I’ll earn between April 2022 and April 2023.

Or…

2. Operate a year behind and base my new monthly budget for 2022/23 on the actual annual earnings I’ll have made when the current tax year ends i.e. between April 2021 and April 2022?

blue.peter

That's something that I think only you can decide. To some extent, it depends on how confident you are of your projections and on your attitude to risk.

If it was me, I'd work to whichever figure gave me the lower budget. That way, if I actually earned more, I'd have some money over. That surplus could either be saved for a rainy day or spent, e.g., on a holiday, or some combination. If I used the higher figure and actually earned less, I'd have a shortfall and either have to dip into savings or find myself in debt. I wouldn't like either - especially the possibility of debt.

bpk101

blue.peter said:

That's something that I think only you can decide. 

Makes sense thanks. 

It's just i've read advice online that talks about budgeting using 'income coming in', but to me it perhaps makes more sense to budget using money actually earned to avoid shortfall like you say. 

I just wondered if there was any glaringly obvious reasons why one wouldn't use that method. 

Dazed_and_C0nfused

Relief at source pension contributions do not reduce your taxable income.

They increase the amount of basic rate tax you can pay, reducing any higher rate tax which would otherwise be payable.