Changes aim to align national insurance contributions and income tax.
One of the significant features of the Budget is the changes for the self-employed. The nod to national assurance alignment and increases in national insurance contributions (NIC) will be significant for entrepreneurs.
Edit: after this article was written, but before it was published, the proposals to increase class 4 NI were scrapped under political pressure. We’ve left the article up and it’s a useful explanation of NI for the self employed, and the changes to class 2 are still relevant. Almost certainly the government will return to the topic of increasing class 4 to come nearer to parity with class 1 employed NI in due course.
Current system
The self-employed pay class 4 national insurance at 9% between the lower profits limit (£8,060 in 2016-17) and the upper profits limit (£43,000 in 2016-17).
Currently, the self-employed also pay class 2 NICs at a flat rate of £2.80 per week (or £145.60 a year), although this is due to be abolished from April 2018.
New system
In the 2016 Budget it was announced that class 2 NICs would be abolished from April 2018. These determine entitlement to benefits for the self-employed. From April 2018, class 4 will become the replacement for determining entitlement to benefits.
The main rate of class 4 NICs will increase (from the current rate of 9%) to 10% from April 2018 and to 11% from April 2019.
This is how it will work:
Example 1
Assume lower profits limit for 2019/20 will be £8,582.
Assume personal allowance for 2019/20 will be £12,070.
Mr A is self-employed with profits of £17,500.
Class 4 NICs will be: [profits less (lower profits limit)] x 11%
This is (£17,500 – £8,582) x 11% = £980.98
Income tax will be: [profits less (personal allowance)] x 20%
This is (£17,500 – £12,070) x 20% = £1,086
Total tax and class 4 NIC will be £2,066.98
Before these changes (in 2015/16), Mr A, with profits of £17,500, would pay income tax of £1,380 [(£17,500 – £10,600) x 20%], class 2 NICs of £146 and class 4 NICs of £850 [(£17,500 – £8,060) x 9%], making a total of £2,376.
Example 2
Lower profits limit for 2019/20 will be £8,582.
Mrs B is self-employed with profits of £25,000.
Class 4 NICs will be: [profits less (lower profits limit)] x 11%
This is (£25,000 – £8,582) x 11% = £1,805.98
Income tax will be: [profits less (personal allowance)] x 20%
This is (£25,000 – £12,070) x 20% = £2,586
Total tax and class 4 NIC will be £4,391.98
Before these changes (in 2015-16), Mrs B, with profits of £25,000, would pay income tax of £2,880 [(£25,000 – £10,600) x 20%], class 2 NICs of £146 and class 4 NICs of £1,524 [(£25,000 – £8,060) x 9%], making a total of £4,550.
Article from ACCA In Practice