But don’t worry—we’re here to explain everything sole traders need to know about filing taxes and maximising your returns so you don’t end up paying too much.
What do sole traders need to know about tax?
When you are working full time for a company that you don’t own, taxes in Australia are relatively simple—you use the group certificate generated by your employer to file taxes once a year.
As a freelancer or entrepreneur, you won’t have these group certificates from your company. Instead, it will be up to you to understand exactly what you owe and how to file it appropriately. We’ll cover most of these topics in more depth, but for starters, here are the basic concepts you should understand when it comes to taxes for sole traders:
- Calculating your income tax
- Making PAYG instalments
- Understanding Goods and Services Tax (GST)
- Producing your Business Activity Statement (BAS)
- Calculating expenses to deduct from your taxable income
- Important tax deadlines
Once you understand these basic concepts, you may find you have everything you need to calculate and pay your taxes in full, on time, year in and year out.
If you have an overly complicated tax situation, you may also want to find a tax accountant to help you stay on top of your taxes—there are many affordable options for freelancers if you choose this path.
So let’s dive in and look at some of these topics more closely.
How to calculate income tax for sole traders
There are a few different types of taxes sole traders need to understand, but let’s cover the easy one first: income tax. As you may have guessed, income tax is the amount of tax you pay the government based on the income you pull in.
What counts as taxable income?
In simple terms, your taxable income is the amount of money you make from your goods and services in a financial year (not including GST—more on that later), minus your business expenses (which we cover below). For example, if you earn $100,000 and have business expenses totalling $18,250 your taxable income will be $81,750.
How much income tax do you pay as a sole trader?
It’s really quite simple: sole traders pay the same tax rates as those who have a regular job. You can determine your tax rate by using the current tax table provided by the Australian Tax Office (ATO):
*This tax table is for the tax year 2020-2021, for Australian nationals and permanent residents. Learn more about tax brackets for foreign-born workers.
The ATO has a handy Australian tax calculator you can use, and Rounded makes it super easy for users to know exactly how much they owe. As you update your income and expenses, the software automatically estimates your income tax, which updates automatically on your dashboard.
If you want to try to calculate it on your own, here’s an example you can follow.
Let’s say you expect to make $120,000 AUD (not including GST) in income this tax year, with $5,000 in business expenses. First, let’s subtract the $5,000 from our income, leaving us with $115,000 in total income.
In that case, you would fall into the fourth tax bracket listed above ($90,0001 — $180,000).
First, you know you’ll owe $20,797—that’s the base rate anyone in this tax bracket will pay. You stand to make $25,000 over the $90,000 threshold, and the ATO requires you to pay 37c for each dollar in that amount. That comes to $9,250, meaning your total tax for the year would be $30,047.
How to estimate your sole trader income
When you work for an employer, you’ll likely have an hourly rate or salary that makes it easy to know how much you’ll earn in a single year. As a freelancer, it’s not so simple—your income may be less steady, and you might not know in May how much you’ll be earning in July.
The tricky part for freelancers is how to calculate income when you don’t know exactly what you’ll be making. There are a few ways to tackle this problem.
Use past data. If you’ve been freelancing for a while, you can use your income from previous periods to determine how much you expect to make. This is one of the big benefits for Rounded users—our software creates simple, comprehensive reports that make it easy to see how much you made over any given period. These numbers can help you get an accurate idea of what you will make in the same period in the coming months.
Overestimate if you aren’t sure. If you overestimate your tax payments, you’ll end up getting money back from the government after you file. If you underestimate, you could be hit with an unexpected tax bill—the former is obviously preferable, so give yourself a little wiggle room in case you end up making more than you expected.
Here’s the good news: You don’t need to estimate your income for an entire tax year. Many freelancers and sole traders pay their taxes in quarterly instalments, which means you only need to give an accurate estimate for three months at a time. We’ll cover that more below, but before we get to that, let’s talk about business expenses.
Calculating sole trader business expenses and tax deductions
Business expenses are any products or services you pay for out of pocket to keep your business running. These can include anything from your mobile phone and internet bills to office supplies to rent on your home-office space.
We have a full rundown of what you can claim as a business expense, and we’ve already answered the age-old question: Is meeting a client for coffee a business expense?
There are a few important things to remember when it comes to calculating your business expenses.
Note: Taxes are complicated, especially when you’re calculating them yourself. It can be beneficial to seek the advice of a professional tax accountant when estimating your taxes and expenses.
- Not every bill is 100% tax-deductible. Let’s say you use your mobile phone both for work and personal calls. You would need to determine how you divide your time—for example, you might use your phone for business purposes 60% of the time. In this case, only 60% of your phone bill would be tax-deductible.
- You need to hold on to receipts and invoices for anything that you plan to claim as a business expense, as the ATO may ask for this evidence when you file taxes. The ATO does say that electronic copies of your receipts are fine, so feel free to take screenshots or photos of your recipes and upload them to Rounded or another secure place.
When it comes to tracking your business expenses, Rounded is once again here to help. By connecting your bank accounts to Rounded, you can easily mark which payments are tax-deductible, and even set a percent-amount per item. Then Rounded will calculate all of your deductions and subtract those from your income, giving you the taxable income amount you need to put on your tax forms.
Remember, it’s always smart to check in with a tax accountant when reviewing your business expenses and preparing your taxes.
Understanding PAYG instalments and how they help
Figuring out how much you will earn in a full year could be quite the headache, even with Rounded’s help. Fortunately, Australia has a system in place called Pay As You Go (PAYG), which allows you to make payments in advance towards your expected tax bill for that financial year.
Paying your tax bill in regular instalments (usually quarterly) ensures you don’t fall behind and aren’t hit with an eye-watering bill at the end of the financial year.
When it comes to paying your PAYG instalments, you have two options:
- A predetermined instalment amount. This figure is set by the ATO based on your latest tax return. If you expect to make approximately the same amount this year as you did last year, this is a good option.
- Set your own rate. You can set your own instalment rate using a rate suggested by the ATO or one you estimate on your own. This is a better option if you expect your taxable income to be significantly different this year than last year, or if you’re in your first year of freelancing.
You can manage all of your PAYG instalments through the myGov website.
They’ll send you some reminders when it’s time to pay up, but it’s a good idea to know the expected payment periods and mark them on your calendar. For 2020-2021, those PAYG due dates are:
- July 28 | Q4 (income earned April - June)
- October 21 | Annual PAYG instalment date
- February 28 | Q2 (income earned October - December)
- April 28 | Q3 (income earned January - March)
Understanding Goods and Services Tax (GST)
Aside from income tax, the other tax that can apply to sole traders is GST. In Australia, businesses are required to charge a 10% tax on most goods and services sold in Australia to Australian companies or individuals.
Not all sole traders need to register for and pay GST, but in general if you earn over $75,000 per financial year or drive taxis, it’s mandatory. That’s why it’s important to charge this amount on your invoices, something Rounded can help you do automatically through its smart invoicing platform.
For more information about GST, check out our article that explains who needs to register for GST and how to do just that if you meet the requirements.
Business Activity Statements (BAS)
If you’re required to pay GST, you’ll need to complete and lodge a BAS with the ATO every quarter. A BAS is a single form that shows:
- Your quarterly income
- How much GST you owe (or if you’ve paid out more GST than you earned from clients, how much of a refund you are due)
- Your PAYG instalments
- Any fringe benefits tax
In July 2017 the ATO introduced the simpler BAS format, which requires you to report less information and takes less time to complete.
Rounded will automatically generate a BAS report for you, pulling together all of the numbers needed to complete the form.
Note: When calculating your annual income tax do not include GST in your taxable income. You pay GST as a separate component when submitting your BAS.
Use Rounded to make tax time simple
We know there’s a lot to remember when it comes to paying taxes as a sole trader—that’s why so many freelancers in Australia and New Zealand use Rounded.
With our software, you can easily:
- Track your quarterly and annual income
- Automatically apply GST to invoices
- Easily record and calculate business expenses
- Generate BAS figures with a few quick clicks
- Store all your receipts in one place