Tax is a sum that you need to pay to the government so it can fund public services, like building roads, schools, and hospitals.
If you’re an individual taxpayer, how you pay it depends on how you earned your money:
- tax on income from employment is taken care of by your employer. They’ll deduct it for you and then send it over to HMRC using a system called PAYE (“Pay As You Earn”)
- tax on earnings from outside employment needs to be calculated and paid by you. You usually do this through something called a “Self Assessment”.
- for small amounts of certain kinds of income, you can also contact HMRC, so they change your “tax code”, which is a number that your employer uses when calculating your deductions. For example, you can do this for dividends between £2,000 and £10,000, or rental income between £1,000 and £2,500.
There is also an additional type of tax that you pay when you spend money. This tax is called “VAT”, and it’s technically paid by the final consumer of a product or service. If you’re a sole trader registered for VAT, you collect VAT from your clients, deduct the VAT you’ve paid for eligible expenses, and then pass the VAT on to HMRC.