“Can I expense lunch with a client?!” Accounting 101 with Rachel Harris

Do you have financial anxiety as a business owner?

Are you confused about paying taxes as a limited company vs as a sole trader?

Does the thought of dealing with your numbers fill you with dread?

I recently spoke with my friend Rachel Harris on The Social Brain Podcast to discuss all things finance, accounting, and taxes, and get some sound financial advice for small business owners.

Prefer to listen to the audio version of our conversation? Go here.

Financial anxiety - or fanxiety as Rachel calls it - affects many business owners, especially women, as we tend to put so much pressure on ourselves to know everything and be an expert in everything we do. But we’re not taught the financial stuff in school, are we?

We’re often encouraged to get accountants involved in our business to make our lives easier, but the idea of hiring an accountant can feel terrifying. When we think of accountants, the image that would likely spring to mind for most of us is of a stale, pale, male.

Rachel’s on a mission to change that and wants to ease your fanxiety so you no longer fear anything related to your accounts in business. Here she answers some of the most common accounting questions she gets from business owners (like you!) and provides some super clear accounting advice for entrepreneurs at every stage of their business journey.

Quick fire facts about paying taxes as a business owner:

• The tax year runs from 6th April - 5th April
• You have until the following January 31st to pay any tax you owe
• Your filing deadline and the payment deadline don’t have to be the same day: You could file your tax return in mid April and not pay it until 31st January
• Income tax is typically a basic rate of 20%
• Dividend tax typically around 9%
• Your personal tax allowance in the UK is £12,570. This is the amount you can earn before you pay tax.

What’s the best structure for my business - limited company or sole trader?

Firstly, different people like to use different words to describe themselves. A sole trader is essentially the same as a freelancer, a contractor, or a self-employed person.

Quick fire facts about being self-employed:

• Self-employed means trading as yourself
• It’s how most people start out when they start a business
• You pay the same type of taxes as you would if you were employed
• You’re responsible for paying your own taxes
• If you make less than £1,000 in sales in one tax year* HMRC don’t ask you to file a self-assessment tax return because they consider what you’re doing to be a hobby
• The reason you’d move from sole trader to a limited company is for tax efficiency
• When your profit (income - expenses = profit) is around £35,000 or above, it becomes tax and cost efficient to become a limited company

Then we have limited companies.

Quick fire facts about limited companies

• A limited company (Ltd) is a separate legal entity
• Profit can be extracted from a Ltd company to you through different ways
• You can be more tax efficient
• You have limited liability when you become a Ltd company: When you’re self-employed, whatever happens to the business, happens to you – yet as a Ltd company, whatever happens to the business just happens to the business
• Limited companies pay corporation tax and the directors of the company pay personal tax on anything they withdraw
• Dividends (the formal way profit is extracted from a Ltd company to you as an individual) is taxed at a much lower rate than normal income tax

It’s up to you when or if you decide you want to become a limited company. If you start to earn more than £35,000 in profit, it’ll be more tax efficient for you to switch from being a self-employed person or sole trader to a limited company.

Do I *need* a separate business bank account if I’m self employed?

Whilst you don’t need a separate bank account as a sole trader, it is strongly recommended you get one. It doesn’t have to be a business bank account, you could simply set up a new account with the company you already bank with.

Rachel says: “Having a separate bank account will change your life. Not only will it separate it in your mind, but it makes you treat your money like it belongs to a business. If you know it was a hobby that turned into a business and suddenly that's getting muddled into your current account, you'll be like “oh, I'm only earning this much, or I'm only doing this, or it's just going into there”, especially when you are a service-based business owner. You attach your self-worth to it and very often you're trying to push that down and quieten it. And so even something like having a separate bank account can really make you treat it as this separate entity.”

Having a separate bank account as a sole trader will make it much easier for you to file your own tax return or make it clearer to your accountant if you choose to hand over that task. Instead of having to comb through one bank account that combines business expenses with Netflix, Dominos and the drinks you had down the pub last week, you’ll know that everything on your statement is related to your business and therefore your tax return.

What’s the best business bank account for business owners?

Rachel recommends online digital banks like Monzo and Starling. She explains: “You can categorise the expenses so you can get a little pie chart at the end of the month that tells you what you spent and where you can set up little pots so you can plan and save tax each month. Even if you have a goal for yourself as a business to get your turnover to a certain level, you can set goals in the pots and spaces.”

What accounting software do I need to track my expenses as a business owner?

The truth is, you don’t need accounting software! The point of accounting software is to categorise, keep and record your transactions - which you can do with a simple spreadsheet.

Using a digital software like Xero or Quickbooks can help you keep everything in one place, can help you plan and save for tax and will often show you information in easy-to-understand charts.

That said, whilst digital software can be helpful, it’s not necessary. If you’re looking to keep your costs down, look for a free software.

What’s better - Xero or Quickbooks?

Rachel shared her thoughts with us on which one of these accounting platforms work best for small businesses:

“Lots of accountancy practices only work with one software. We are completely software agnostic which is fantastic. It's something I'm really, really proud of. For me, it’s important to have the client at the centre of those decisions and be able to say, "have a look at both of them and see what you prefer.”

They're both price competitive - the full packages of Xero and QuickBooks are normally around 25 pounds a month. We, as accountants, get discounts on those services because we're registered and trained in how to train people on that software, and so we pass that discount onto the client.

What works for one person wouldn't be the same for another person. Banking and just separating your finances and tracking your finances is at the bottom. It's completely free. And for a lot of people for a long time is actually more than enough.”

Then it’s down to you! What tool do you prefer? What’s more user friendly for you? What’s more aesthetically pleasing for you?

What counts as an allowable business expense?

The question you need to ask yourself in terms of which card do I spend this on is this:

Is this wholly and exclusively for the purpose of the business?

If you weren’t self-employed, would you still be spending this money?

Let’s look at an example:

You’re buying a new microphone to record YouTube videos or Podcast episodes for your business. If you didn’t have a business, would you be creating this content? No, then you wouldn’t be buying this microphone, therefore the mic is wholly and exclusively for the purpose of your business.

That means you can claim it as an expense.

But what about taking a client out? Can you expense lunch with a client if you’re a business owner?

If you weren’t meeting the client for lunch, would you still need to eat lunch? Yes, because you’re a human and you need to eat. So that’s not an allowable expense.

Rachel explains: “Entertainment is actually quite a rogue area for accountants and HMRC. If you use accounting software and you've ever typed in entertainment, you’d probably see there's two codes. There's Entertainment 100 and Entertainment 0. Entertainment 100 is, this is allowable and Entertainment 0 is, I'm gonna let you categorise this as an expense but when I calculate your tax return, I'm actually gonna add this back and make sure you pay tax on it.”

Entertainment is a bit of a grey area, so one of the first things that accountants will check and comb through is: can we prove that this is allowable?

Allowable entertainment is things like Christmas parties or refreshments at a board meeting. If it is wholly and exclusively for your business, you can claim it.

You can also claim business mileage. For example: If you go to the post office five times a week to post products to your customers and it’s three miles away, you can claim 45p a mile as an expense.

And your accountancy fees are also tax deductible, because if you didn’t have your business, you wouldn’t need an accountant.

What’s the best way to plan for tax?

There are two different ways to plan and save for tax. Limited companies need to plan and save for corporation tax. And everyone who’s self-employed, including directors of limited companies, need to plan to save for personal tax.

How to plan for tax:

• Step 1: Stay up to date with bookkeeping + categorising your transactions
• Step 2: Run a profit and loss report
• Step 3: Once you understand what your profit is, you can calculate your tax

For limited companies this year, corporation tax is 19%. You can calculate what your tax is based on your profit. Rachel advises her clients to save 20% so they have “the champagne problem that [they’ve] saved too much tax”.

The process is similar, if a little trickier, for sole traders and directors who extract dividends. HMRC has a calculator and Rachel’s company has an app that can help you calculate your tax.

Unlike with corporation tax, we can’t give you a specific percentage to set aside, because everyone’s tax situation is different. This is where the help and advice of an accountant comes in. They can zoom out, look at your personal situation within and outside of your business and not only help you plan and save for tax, but also incorporate PAYE, National Insurance, dividends tax and student loans into the mix.

If getting an accountant isn’t for you, Rachel says: “The best thing to do is to use a HMRC calculator every month that says, this is my payroll income, and this is my self-employed income. It will literally give you, to the pence, an amount to save every month. Amazing. That's the best way to do it.

“And for personal tax, I really, really do recommend using an online calculator rather than just setting aside a certain percentage. Everybody is different and the point of planning and saving for tax is to feel very confident that it's right.”

Rachel covered a LOT in the podcast interview - far more than we could write down here! So if you’d like to dive even deeper into accounting and finance as a business owner, and get tonnes more advice and value from Rachel herself, I’d highly recommend you listen to the full episode here.

Rachel Harris is a qualified accountant, business owner and founder of Accountant She. Rachel specialises in accountancy and tax advisory services for female entrepreneurs, influencers and business owners and always goes the extra mile for her clients by providing support, empowerment, and positivity along the way.

Follow Rachel on Instagram, watch her on YouTube and visit her website here.