National Insurance can feel like a hot ball of confusion.
The tax that isn’t called a tax, it comes in many varieties.
It’s actually simple(ish) for a sole trader once you know what applies to you and what you need to do (Class 2 and Class 4).
It’s even simpler for limited companies if you follow the standard minimum wage/dividends route (Class 1).
This article is part of a series on National Insurance: scroll to the end for links.
Read on to find out:
Let’s begin with what is national insurance.
National Insurance (NI) started as a way to fund a new thing called the state pension and state help for low paid people, the ill and less able. These are called NICs (National Insurance Contributions).
It meant if you were old and couldn’t work, were ill and couldn’t work, or disabled and couldn’t work, you didn’t starve or die from lack of basic health care.
(To get political for a moment, this was common place right into the 1950s which isn’t a very long time ago. The conditions in Call The Midwife give you a good idea.)
This is why National Insurance is a tax that isn’t called a tax because originally it was spreading the cost of care for everyone. Now we still pay for care for everyone (until government dismantles it) but NI goes into general taxation, and general taxation pay for it.
Now wake up if I caught you snoozing, this is the important bit.
There are 5 kinds of National Insurance.
Class 1a, Class 1b, Class 2, Class 3 and Class 4. Class 1 is for employment (including if you have a limited company). Class 2 and Class 4 are for the self-employed (that’s you, sole trader).
Class 3 are voluntary contributions.
HMRC are your mobile phone provider. When you buy a phone (start a business), you enter into a contract to pay National Insurance. The contract lasts as long as your business.
Sole traders (self-employed):
Limited company (if you earn a salary not doing the usual minimum salary/dividends arrangement) and/or you have a job:
Make more sense?
(If you’re wondering what the limited company minimum salary/dividends arrangement is, it’s one of the key ways that having a limited company can sometimes save you tax. If you’re interested in learning more and getting some coaching, send me a mail.)
Whether it’s worth doing or is money down the drain depends on your situation.
Get your calculators out ladies.
Class 3 National Insurance is a top-up to your National Insurance contributions.
This section is my personal opinion and isn’t advice. (I need to say that bit).
The thing is, who talks about National Insurance contributions in real life situations, when you’re in your 20s, 30s and don’t have a neat pattern of full time work for several decades?
So let’s be real here.
If you’re reading this article, it’s more likely you’ll meet my Procrastinating Unicorn walking down your street all decked out in his blue unicorn onesie, than it is that you’ll benefit from paying Class 3 National Insurance Voluntary Contributions (opinion!).
It’s perfect if you’re near state retirement age and you need to fill in some gaps in your nearly complete National Insurance record.
I have clients in their 60s and late 50s, so if that’s you, send off to the Department of Work and Pensions (DWP or whatever they call it when you read this) for their prediction of your entitlement.
Class 3 NICs aren’t cheap so run the sums and remember the state pension age and entitlements now
will may be different. Moving goal posts, much?
Also consider whether putting the money in a private pension plan is better (again, I must say this is my personal opinion only. I’m putting options out there. Find a financial advisor to help if you consider doing any of this).
If you’re younger, it also may be worth running the sums if you are planning on getting pregnant in the next few years. NICs contribute to state maternity pay, so ask the DWP what you’re entitled to already.
I don’t know if contributions include paternity pay as the government’s site helpfully doesn’t state that little detail. (I also don’t know whether maternity pay includes wives of mothers(to be), probably not).
There’s a group of other folks who Class 3 can be handy for (ministers of religion, people who invest money for other folks not as part of a business etc), but you know, this article is for you not them 😉
This is where this gets seriously my opinion only.
A lot of us in our 20s and 30s (that’s me) and even 40s have patchy National Insurance records.
I worked abroad for several years so didn’t pay any NICs, when I came back the jobs I had didn’t pay enough to meet the threshold to pay NICs and when I started self-employment I needed the money for food so didn’t pay any Class 2 NICs for several years.
My NIC contributions have more holes than a hand crafted crocheted dog blanket.
But in my opinion only, it’s ok.
I don’t believe there will be a state pension for me to lose entitlement for when I get to that age, I don’t intend on getting pregnant and I doubt I would be entitled to bereavement benefits (it’s amazing how much state help you aren’t entitled to when you need it).
Class 3 NICs are expensive and in my opinion only, putting that cash into maxing out your ISA (tax free savings or investment) and/or a private pension, or even bog standard normal savings, is a better bet.
The government’s view is here.
What is important to me is that since you’re reading this far, you send to DWP for your entitlements so you know. It’s important to know.
Then please please take action and plan for supporting yourself financially in older age.
Quite a lot.
For example, at the time of writing, Class 3 National Insurance Contributions are 5 x the cost of Class 2.
That’s a sizeable chunk of cash. It can vary though, so if you ran your numbers and it’s worth you investigating, ask the DWP for exact rates for you and consult a financial advisor, your accountant (or the Citizen’s Advice Bureau).
Bookmark this article for reference.
You pay Class 3 National Insurance like you would a bill.
Direct debit, online/phone banking, at your bank branch, Post Office or cheque (ooh, retro!).
Sending a unicorn to HMRC HQ with your cheque attached to its horn does not count as a valid method of payment.