National Insurance in the UK is a tax that a lot of self employed folk seem to forget about. It’s at a much lower rate than normal income tax but you do still need to pay it! In the video below I explain this in a bit more detail:
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In this article I’m going to tell you what National Insurance is and why you might want to consider paying it… even if you don’t have to!
What taxes do you pay when you’re self employed?
When you’re self employed in the UK there are essentially two main taxes that you’ll need to pay:
- Income Tax
- National Insurance
There’s also VAT but you don’t need to do that until you pass the threshold for registration which is, at the time of writing, £85,000 turnover per year. For simplicity, income tax is at 20% and national insurance (NI) is at 9%. There’s a bit more to it than that but keep those figures in the back of your mind.
Whether you’re employed or self employed you need to start paying NI from when you reach the age of 16 and you’ll be paying it until you reach state retirement age (currently 67). So at the moment that’s potentially 51 years of paying NI.
What is National Insurance used for?
A lot of people think NI is mainly used to fund the NHS but that’s not really true. The main functions of NI are to pay for:
- State pensions
- Employment & support allowance
- Incapacity benefit
- Unemployment benefit
- Plus a bunch of other stuff
These are all things that most people entirely take for granted. You just assume you’ll get a pension when you retire and benefits when things go wrong. But where does that money come from? That’s right folks, NI.
What is a NINO?
The whole NI system is managed using your national insurance number – often called a NINO. A national insurance number looks a bit like this:
AB 12 34 56 X
Two letters, six numbers and another letter. Your NI number is unique (ish – dead NI numbers do eventually get re-used!) and it’s assigned to you shortly after your birth is registered in the UK. Most people aren’t aware of it until you reach the age of 16 when you have to start paying NI. If you weren’t born in the UK you’ll need to apply for an NI number – more information about that here.
What are NI classes?
There are basically four different classes of NI – also sometimes called ‘bands’. The only ones you need to worry about as a self employed person are class 2 & class 4, but here’s a quick overview of what each class is used for:
- Class 1 – this is for normal employees. If you work for a company you’ll probably pay class 1 NI. It will automatically be deducted from your wages by your employer and shown on your payslip.
- Class 2 – this is the first band of NI for self employed people. At the time of writing you need to pay this if your profits are over £6,475 per year. There’s been talk of this being scrapped for years, but at the time of writing it’s still here.
- Class 3 – this is used for voluntary contributions to fill gaps in your NI record if you’re an employee (not self employed – see class 2).
- Class 4 – this is the main self employed NI band.
So to simplify things:
- Class 1: For employees
- Class 4: For self employed
How much NI do I need to pay?
NI rates and thresholds change from time to time and are generally announced by the Chancellor of the Exchequer as part of the budget. The important concept you need to remember is that NI is based on your PROFITS not your TURNOVER. You could have a turnover of £1m per year but if your profits are only £5,000 you’ll probably pay zero NI. For the 2020/21 tax year this is what you need to pay:
- Class 2 – paid if profits are over £6,475 per year at a rate of £3.05 per week (£158.60 per year)
- Class 4 – paid if profits are over £9,501 per year at a rate of 9% and then 2% on profits over £50,000
So if you make over £6,475 profit (in the 2020/21 tax year) you’ll need to pay class 2 NI – assume it’s going to be a bill of £158.60. On top of this, if you make over £9,501 profit then you’ll pay NI at a rate of 9% on all profits between £9,501 and £50,000. The NI on profits over £50,000 are at 2%. You can read more about current rates here.
Why pay NI voluntarily?
You’re probably asking, why on earth would anybody pay a tax that they don’t have to pay? Well fast forward to your retirement. At the moment the retirement age is 67 and you’ll get a state pension of around £9,000 per year. You’ll only get this state pension if you’ve paid your national insurance! The amount you get depends on how much NI you’ve paid – you build up a bank of ‘qualifying years’. At the moment you need:
- Minimum of 10 qualifying years for a partial pension
- 35 qualifying years for a full pension
In a nutshell, by the time you retire you want to have 35 full qualifying years of NI contributions ‘in the bank’. So if you work from the ages of 18 to 67 you have a maximum potential of 49 working years (51 if you start work from 16). Now, remember you only need 35 qualifying years and, generally speaking, there’s no brownie points for having more NI years than you need. Coincidentally, if you did start work at 16 you could have your 35 qualifying years by the time you’re 51. That doesn’t mean you’re off the hook for NI from age 51 to 67. It just means if you happened to ‘down tools’ at 51 and live off savings or whatever, you’d still get a full state pension when you’re 67.
How do I check my National Insurance record?
Easy! The government have very kindly put together an excellent website where you can check your national insurance record. You can visit it here. You’ll need a government gateway account to access this.
Simply click the link that says “Check your National Insurance contributions” and you should then see something like this:
As you can see here, at the time of checking I’ve got 23 qualifying years. So I need 12 more to get a full state pension. I’ll be retiring in 2041 so I’ve got 22 years in which to build up those 12 qualifying years – which is plenty of time. But don’t get complacent – blink and it’s gone!
A problem you may encounter?
So you’re probably wondering what all the fuss is about? You’ve got a potential 51 working years in which to build up 35 qualifying years of NI. No problem! Well, the only issue is that self employed businesses often operate very close to or below the NI threshold. If you constantly invest in the business by buying equipment or paying staff then you might never earn enough to pay any NI. Admittedly it’s hard to live on <£6,475 these days but perhaps your living expenses are shared with a partner? Perhaps you’ve borrowed money or are living off credit cards? (please don’t!). Before you know it your life has shot past in the blink of an eye and you don’t have your full 35 years of NI.
As such, if you’re self employed and your profits are low you can elect to pay NI on a voluntary basis. For the sake of £156 per year it’s worth doing in my book – at least until you’ve built up the 35 years. After that as far as I’m aware it’s pointless – you don’t get extra money for having 40 qualifying years.
On the video above I run through a few different examples of how much national insurance you might have to pay, based on the 2019/20 tax year.
How do I pay NI voluntarily?
Normally you would pay your class 2 and / or class 4 NI as part of completing your Self Assessment tax return. As part of that you should find this option:
The above is all fairly self explanatory. That’s all there is to it. If your profits are under £6,365 (bear in mind the above is for the 2019/20 tax year) and you want to voluntarily pay class 2 NICs (National Insurance Contributions) then click ‘Yes’ and the £156 (or whatever) should automatically be added to your tax bill. Double check the calculation before submitting your return. I’m not sure how long it takes HMRC to update your NI record. I’d give it a good couple of weeks after submitting your return before bothering to check if your NI record has been updated. In the above example the 2019/20 tax year should then show as a ‘Full year’. Job’s a good’un – another year done!
So remember, NI is an additional tax you need to budget for. Generally speaking it’s at 9% of your turnover and you may want to pay it voluntarily. It could cost you as little as £156 per year to build up what’s needed for a full state pension.
Member Downloads
If you’re a website member you can download the spreadsheet I used in this actual video below. Don’t rely on this too much as I knocked it up very quickly and it doesn’t cater for higher tax bands, but it gives you a general idea of what % you should be putting away for profits up to around £50k.
LATEST UPDATES – Jan 2023: Version 2.1 has been updated with the latest tax and NI thresholds. You can download in .ods Open Document format for the likes of LibreOffice or .xlsx for Excel. Obviously feel free to update the figures to suit future tax years.
Tax and NI Calculator v2.1 (Open Document format)
Tax and NI Calculator v2.1 (Excel format)
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