As a sole trader, taxes are often a point of confusion and yet you want to make sure you start the financial year right.
You probably have questions about:
We asked tax expert Matt Byrne, founder and director of Day One Advisory accounting practice and consultancy, for his sole trader tax tips. With his insights, we’ll cover:
Note: This article is not financial advice. For personalised financial advice speak to an accountant.
When you’re new to sole trader taxes and managing your business revenue, these top four concerns usually cause the most problems and slow you down, according to Matt:
As a new sole trader, your end-of-year tax payment is usually a large amount of money and likely more than you normally have in your freelancer bank account. If you’re not prepared with enough savings set aside, finding the money to pay your taxes could put a significant strain on your cash flow.
You don’t want to create financial problems for your business next year because of a larger-than-expected tax payment this year, so it’s important to start preparing for it early.
One of the big perks of becoming a sole trader is the many tax deductions you can claim against your taxes, but these deductible expenses come with rules. Everything you buy for business use isn’t tax-deductible.
Declaring incorrect tax deductions could result in an audit down the road, possible penalties, and a bigger tax bill, so it’s best to know what you can and can’t deduct as a sole trader.
And, for the expenses that are tax-deductible, you must keep good records or you risk paying more tax than you expect.
Remember, your goal isn’t to pay zero taxes. Paying taxes means your sole trader business is successful, making money, and contributing to society.
If you’re not sure what you can and can’t deduct, we’ve put together a summary in this article: Sole Trader Tax Deductions (How to Optimise your Taxes in 2022)
Don’t wait until the last minute to look for ways to reduce your tax bill because you may not be fully aware of all the sole trader tax deductions you could claim this year.
Start thinking about your tax deductions in advance because some may require a small amount of advanced planning and can significantly reduce your taxes.
For example, if you work from home, your home-based business expenses can add up throughout the year. A few simple and necessary record-keeping tasks could allow you to deduct a portion of your electricity, internet, phone, and even mortgage interest or rent payments.
When you’re busy, you might not notice you’re about to hit the $75,000 GST threshold until it’s too late. If your sole trader business has earned more than this threshold in the past 12 months, you may need to register immediately.
Once you register for GST or have an annual business income of $75,000 or more, you must add GST sales tax to your client invoices, set this money aside, and pay it to the ATO usually in quarterly instalments.
So, start keeping track of your projected annual business revenue now to avoid paying penalties and past-due GST payments later.
Now that you know the pitfalls to avoid, here are Matt’s 7 tips to help you remain in control of your taxes and prepare you for the financial year:
These are only tips and not personalised financial advice – speak with your accountant for personalised tax advice.
Instead of getting caught out at the end of the financial year with a big tax payment to make, calculate your sole trader tax rate so you’ll know how much to put into a savings account for your first end-of-year sole trader tax return or quarterly Pay-As-You-Go (PAYG) instalments.
PAYG payments allow you to prepay your sole trader taxes usually in quarterly instalments to avoid managing one large payment at the end of the tax year. As a new sole trader, you’ll probably start receiving notices about PAYG instalments in your second or third year in business, depending on your annual business revenue.
Related reading: Learn how to calculate your sole trader tax rate and understand how much you can expect to pay in our helpful guide.
Start the year off with a solid estimate of your income, then use your tax rate to calculate what you’ll owe. Without a business income estimate, it’s hard to know how much you should set aside for an end-of-year tax payment or quarterly PAYG instalments.
Even if you’re not completely sure how much you’ll earn this year, make your best guess and adjust it as the year progresses. This way you can avoid the shock of an unexpected tax return bill at the end of the financial year.
Related reading: Check out our article on how to calculate a tax estimate for your sole trader business.
Once you’ve figured out your likely sole trader income and taxes, your estimated tax bill may feel overwhelming, but you can lower your tax payment with the right tax deductions.
Most tax-deductible business expenses have rules you must follow to qualify for the deduction. Otherwise, you could pay more taxes because:
For example, if you run a home-based business, your phone and internet fees could be tax-deductible business expenses, but you can only deduct the business portion of these bills. If you don’t provide records of your business use for these services, you can’t use them as tax deductions.
Using specific sole trader accounting software can help you organise your deductions. However, as your business grows, you may want to hire an accountant to help you make the most of your tax deductions, ensure you’re deducting them properly, and save yourself from wasting too much time figuring it out alone.
Here’s a common sole trader tax deduction mistake: business purchases like coffee or meals with clients usually aren’t eligible for tax deductions, even though they’re genuine business purchases.
So, make sure you know how sole trader tax deductions work.
Related reading: Our comprehensive guide will help you learn the simple rules for calculating tax-deductible business expenses on your tax return.
Your tax return and especially your tax deductions require good records. Without receipts and other necessary records, the Australian Tax Office (ATO) can refuse to accept your legitimate tax-deductible expenses making your tax payment much higher.
Make sure you have a system in place so it’s easy for you to collect and categorise your expenses during the year. If you’re not sure if an expense is tax deductible or not, just record it so you’ll have it ready for you or your accountant to check when tax time comes.
Keeping good records also helps you or your accountant see the full picture of your sole trader finances and make better decisions about how to lower your taxes in the future.
Related reading: Learn how using an all-in-one money management app helps keep your financial records, invoices, and expenses in order.
As your business brings in more money, the amount due on your sole trader tax return increases, making last-minute payments challenging. The sooner you start saving money for taxes, the more relaxed you’ll be when it’s time to pay because you won’t be caught short.
Once you have a solid business revenue and tax estimate, create a budget to help you manage your business cash flow, expenses, and tax payments. A budget will keep you from overspending or making unnecessary purchases at the wrong moment. It can also help you plan for the right tax-deductible purchases to lower your tax bill.
PAYG quarterly instalments can lessen your stress at tax time as well. After your first year in business, the ATO may require you to use PAYG payments, so start learning about them early.
Related reading: Know how to complete a tax return for sole trader with our step-by-step guide.
Keep an eye on your projected annual business revenue especially as you get closer to the threshold.
As soon as you’re certain to pass the annual $75,000 revenue limit, register for GST and start learning about it and how Business Activity Statements (BAS) work.
If you want to make tax time more manageable and less painful, don’t wait until the last minute to think about it. Some deductions require more time, so knowing which ones you can claim in advance will help decrease next year’s tax payment.
For example, as your business grows, you could lower your effective tax rate by changing your business structure. Matt says it’s good to speak with your financial advisor when considering a move from sole trader to another business type.
When you’re ready, talk with an accountant specialising in sole trader taxes to advise you about tax planning.
These are only tips and not personalised financial advice – we recommend you speak with your accountant for personalised tax advice.
Get answers to the most frequently-asked questions sole traders and freelancers have about calculating their taxes:
Before you can calculate how much tax you’ll pay as a sole trader, you need to know your tax rate. You can learn more about your sole trader tax rate, calculating your tax estimate or figuring out how much you owe in this guide on sole trader tax rates.
As a sole trader or freelancer, you are taxed at the same rates as an employee with one big difference: you can claim many more tax deductions.
One of the big advantages of a sole trader business is the many tax-deductible expenses you can claim. If you’re wondering how much a sole trader can claim on tax, read this comprehensive guide on sole trader tax deductions and how to calculate them.
The ATO says you can use your personal bank account as a sole trader, but you will still need to keep very good records for your business. With a separate business bank account, keeping track of your client payments, overall revenue, and business purchases is much easier and less time-consuming.
When it’s time to lodge your tax return, you’ll avoid spending hours playing hide and seek with your client payments and tax-deductible purchases in your private accounts. When you’re ready to get a separate business account, this detailed comparison of sole trader business bank accounts will help you find the right one for you.
We hope these sole trader tax tips help you prepare your tax return while:
Note: Take Parpera for a free 30-day test drive and see how easy managing your tax deductions can be. As a Parpera member, you can join in on our easy-to-understand tax prep webinars to quickly master your taxes.