Getting started as a sole trader isn’t particularly complicated, but there are a few important things to note around GST, income tax and expenses.
Sole traders vs companies
The key difference between a sole trader and a company is that a company is separate from the people who own it. As a sole trader, your business becomes part of your personal finances. This means that you are liable for any debts your business might have, and this may put your personal assets at risk.
Companies have a shared liability between the shareholders and your tax rate may be lower overall, but there are a larger number of rules and regulations that you need to follow, particularly around profits and tax.
Setting yourself up as a sole trader
To set yourself up as a sole trader, you don’t need to go through any particular legal registration process, you just need to notify the IRD of your intent to become a sole trader so that they can set up your personal IRD number accordingly.
According to Business.govt.nz, to become a sole trader, you must have:
NZBN (New Zealand Business Number)
You have the option of easily applying for a NZBN (New Zealand Business Number) and, using this, you can select a trading name for your business to make it more professional. Having an NZBN will also help to ease your interactions with suppliers, customers and the government, particularly when invoicing or paying tax.
GST
If you earn, or think that you will earn, more than $60,000 a year, you will need to register for GST (Goods and Services Tax).
Earning less than $60,000 annually? You can still register for GST voluntarily, but maybe have a chat to an accountant to see whether it is worth it for you.
If you are registered for GST, you can claim back the GST you’ve paid on things you buy for your business. You will generally also charge GST on the products/services you sell, which you will then need to pay back to the government.
Income tax
The tax year runs from 1 April to 31 March for most taxpayers. Tax returns need to be filed with Inland Revenue by 7 July of the same year (or 31 March the following year if you are registered with a tax agent like Haven). Once your tax return is filed, Inland Revenue will know how much tax you need to pay
Because you’ll be using your personal IRD number for your business, your net profit (what you earn after you’ve paid for your business expenses) will be taxed through this IRD number.
It’s important to note that when you become a sole trader, you will need to complete an individual income tax return (IR3) form at tax time, rather than the IRD automatically working it out for you.
Provisional tax
Provisional tax helps you manage your tax by paying it in instalments during the year instead of a lump sum at year end. If your tax is over $5,000 for the year, you will need to pay provisional tax for the following year. This can catch people out as tax for your first year in business needs to be paid at the same time as paying provisional tax for your second year in business.
Provisional tax is generally calculated based on your prior year tax to pay plus 5%. For example, if your tax to pay for the year ended 31 March 2020 was $5,000, provisional tax for the year ending 31 March 2021 would be $5,250 ($5,000+5%). This would be paid in 3 instalments as follows:
You might qualify for a 6.7% income tax discount if you pay all of your provisional tax payments early in your first year before the 31st March. Get in touch with our expert accounting team to find out more about this!
Expenses
There are many different expenses that you can claim back to help to reduce your annual tax bill. A business expense is a cost that you incur in the day-to-day running of your business, including assets, tools, vehicles, and stationery.
At tax time, the total amount you need to pay tax on is your income minus your expenses, so the more expenses you claim, the less tax you have to pay overall.
Note that you can’t claim the entire cost of every expense you incur – for some expenses, including entertainment, you can only claim 50% of the cost. All records including receipts under $50 need to be kept for seven years – the easiest way to do this is to take a photo and store them online in a secure place or set aside monthly or annual files to keep paper copies.
If you’re not sure what expenses you can claim for, you can find out more here.
Ready to get set up? Come and have a chat with our friendly accounting team to make sure you’ve got all of your ducks in a row!
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