Are you using the trading allowance correctly?

What is the trading allowance?

The trading allowance is an amount of up to £1,000 per tax year which you can use against any gross income made from self-employment, casual or miscellaneous sources (such as babysitting or selling goods through a website).

You can use the trading allowance as well as the personal allowance.

Your total gross income from self-employment and other activities is £1,000 or less – full relief

If you have total gross income from self-employment, casual and miscellaneous sources which is £1,000 or less then you can get ‘full relief’ using the trading allowance (see the example below). This means you do not have to register your self-employment with HMRC or complete a Self Assessment tax return, unless you have other reasons to submit one.

For example, if you have some gross self-employment income of £800 and some gross casual income of £125, you could use the trading allowance instead of registering your self-employment with HMRC or completing a tax return (unless you needed to for another reason as mentioned above). This means the £925 is not taxed and you do not use your personal allowance against it.

You can never use the trading allowance to make a loss. So in the example above, you have £925 of income against which you can use the £1,000 trading allowance. But you do not take away the £1,000 allowance from the £925 income, to give a minus figure (or loss) of £75. The £75 is just spare allowance, which is not used.

If you have to complete a tax return for another reason, then you do not need to include income that is fully covered by the trading allowance. If you have previously been in Self Assessment but now don’t need to be because your income is covered by the trading allowance, then you could contact HMRC and ask them if they will agree to withdraw any notice to file a tax return they have sent.

Your total gross income from self-employment and other activities is over £1,000 – partial relief

If your total gross self-employment, casual and miscellaneous income is more than £1,000 then you can claim ‘partial relief’ using the trading allowance. This means you can take away £1,000 from your gross income instead of any actual business expenses or capital allowances.

For example, if you have total gross self-employment income of £2,600 and expenses of £450 then it would be beneficial to claim partial relief using the trading allowance, as this would reduce your self-employment profits to £1,600 (£2,600 minus £1,000) rather than deducting actual expenses under the usual rules, which would give you a profit of £2,150 (£2,600 minus £450).

You should submit a Self Assessment tax return if you are claiming partial relief using the trading allowance. You claim partial relief by completing the relevant box on the tax return.

There may be some occasions when it is better for you not to use the trading allowance. It is also important to understand that you still need to report the income covered by the trading allowance for some means-tested benefits, such as universal credit (although not for tax credits). There is a link to more explanation at the end of this article.

What does gross trading income mean?

Gross trading income means all your trading, miscellaneous and casual income before taking off any expenses.

Identifying the ‘gross’ amount of income can sometimes be tricky, particularly if charges are deducted before receiving the income directly into your bank account. Examples of charges could be selling fees or transaction costs charged by a platform or even tax under the Construction Industry Scheme (CIS).

Example – understanding gross income

You receive a payment of £892.50 direct to your bank account from a website which sells your craft goods. However, the website charges 15% fees to sell your goods and they take this from the income from the sale of your goods before they pay you. Your gross trading income is actually £1,050 even though you only receive £892.50, as shown below:

This means that you are not eligible for full relief trading allowance and will need to register for self-employment and complete a tax return as your trading income is over £1,000. You can still claim on your tax return instead of your actual expenses which will reduce your trading income to £50 (£1,050 gross income minus the £1,000 trading allowance).

Be extra careful when using apps to track your income, expenses and manage income tax. If the app picks up the information directly from your bank account, there is a possibility it will record income which has had expenses deducted before it is paid into the bank (such as the 15% selling fees in the example above). The app will then produce an inaccurate calculation of your gross income which could lead to an incorrect claim for the trading allowance.

What if I have claimed the trading allowance incorrectly?

In summary, the issue highlighted above is that the income you receive might have had amounts taken off and so it could be different to your gross income for the trading allowance. If you (or your app) have taken the amount from your bank statements as gross income, this might have been incorrect when working out how the £1,000 trading allowance applies.

If you have claimed the trading allowance incorrectly, perhaps by using full relief when your gross income is actually above £1,000 as per the example above, then you need to make sure you correct your tax position as soon as possible.

This may mean you have to register your self-employment with HMRC and complete a tax return to declare the income. There may be penalties if you have missed the deadline for telling HMRC that you need to complete a tax return. If you are in this position and on a low income, contact TaxAid for help in getting your tax affairs up to date.

If you already complete a tax return for other reasons and claimed ‘full relief’ using the trading allowance by mistake, you will need to amend your tax return to include this income. You can however, then claim ‘partial relief’ of the trading allowance instead of actual expenses (see above).

You will also need to amend your tax return if you have incorrectly claimed ‘partial relief’ against income that has already been reduced by actual expenses.

Example – trading allowance, partial relief incorrectly claimed

In the 2020/21 tax year you received income in your bank account from online sales of £2,000. You worked out that your actual expenses you directly paid out were £800. Because the £1,000 trading allowance is more than the £800 expenses, you claimed trading allowance ‘partial relief’. This meant your taxable profit was £1,000 (£2,000 income minus the £1,000 trading allowance). You put this on the tax return you submitted to HMRC.

After reading this article, you look back at your £2,000 sales and realise that this was the amount you received in your bank account and there had been £400 in fees taken off before you received it. This means that your gross trading income was £2,400. Your total expenses were £1,200 – the £400 fees plus the other £800 expenses you had already included.  

This means that your 2020/21 tax return should have showed total gross trading income of £2,400, minus £1,200 expenses, which leaves a profit of £1,200. Actual expenses should have been claimed instead of trading allowance partial relief as the actual expenses of £1,200 are more than the £1,000 trading allowance. Your profit was therefore £200 higher than the £1,000 you put on your tax return. You need to amend your 2020/21 tax return.

Where can I find more information about the trading allowance?

There is information on our page ‘What is the trading allowance?’ which includes:

• examples if you have more than one source of trading, causal or miscellaneous income,
• why you might not need to claim the trading allowance and
• how the trading allowance works if you are repaying a student loan or claiming tax credits or universal credit.

We cover how the trading allowance works if you have claimed the Self-employment Income Support Scheme (SEISS) grants on our page ‘SEISS: where do I include the grants on my tax return?’

There is also further technical guidance in HMRC’s Business Income Manual on GOV.UK.