Starting out as a limited company contractor is exciting. You’re your own boss, you set your own terms, and you finally get to reap the rewards of your hard work.
But, perhaps not surprisingly, the early days usually entail a few mistakes, especially with business finances. Many of these slip-ups are avoidable with the right advice and a little forward planning. Here are seven of the most common pitfalls new contractors face, plus practical tips to help you keep your business running smoothly.
Mistake #1. Failing to Save Enough for Tax
One of the biggest shocks for new contractors is the first tax bill. Unlike employees who have tax deducted at source via PAYE, contractors receive gross income into their company bank account. If you don’t set money aside, your Corporation Tax bill - and any personal tax from dividends - can come as a surprise. What to do:
- Don’t be lulled into thinking that because the money is in your company account, it’s all yours. Treat tax savings as non-negotiable. Open a separate business tax savings account and transfer a percentage of every invoice straight into it.
- As a rough guide, it’s a good idea to put aside 20–25% of turnover. Your FreeAgent bookkeeping tool, part of your Workwell accountancy package, will give you an up-to-date picture of your tax liability, or you can speak to your Workwell accountant. Find more tax-saving strategies here.
Mistake #2. Forgetting About VAT Obligations
If your annual turnover is above £90,000, you must register for VAT. But many new contractors either forget about this threshold or don’t plan for the impact of VAT on their cash flow. Even if you’re below the threshold, voluntary registration may be beneficial, particularly if you plan to grow quickly or feel that registration would give you kudos among potential clients. What to do:
- Track your turnover carefully from day one, not just profits. The £90,000 threshold is based on revenue, not earnings.
- Discuss with your Workwell accountant whether early VAT registration makes sense for you.
- Keep an eye on client expectations - some larger businesses expect suppliers to be VAT-registered.
Mistake #3. Mixing Personal and Business Finances
It’s tempting to dip into the company account for personal expenses, but this quickly creates confusion and can lead to tax headaches. HMRC expects a clear separation between your company’s money and your own. What to do:
- Set up a dedicated business bank account from the start, we can help with this.
- Pay yourself a structured salary and dividends rather than ad hoc withdrawals. Again, get advice from your Workwell accountant so this is handled correctly.
- Keep clear records of any expenses you reimburse yourself for, such as mileage or home office costs.
Mistake #4. Ignoring Allowable Expenses
Many contractors under-claim expenses in their early days, either because they don’t know what they can claim for or they’re worried about getting things wrong. Failing to claim tax relief on legitimate business expenses can mean paying more tax than necessary. What to do:
- Familiarise yourself with common allowable expenses, you can view our expenses guide here.
- Keep your receipts.
- When in doubt, ask yourself: is the expense “wholly and exclusively” for business? If yes, it’s usually allowable.
Mistake #5. Paying Yourself Inefficiently
Without guidance, contractors often pay themselves entirely via salary, which can be unnecessarily expensive due to National Insurance Contributions. Others may overdo dividend payments without considering personal tax thresholds. What to do:
- Work with your Workwell accountant to create a tax-efficient remuneration strategy. For most contractors, a blend of a modest salary (up to the basic rate threshold) and dividends is optimal.
- Revisit your pay structure annually, as allowances and thresholds change regularly.
- Remember that paying yourself isn’t just about minimising tax, it’s about maintaining compliance and ensuring you can demonstrate reasonable remuneration.
Mistake #6. Missing Deadlines and Filings
Late filing of accounts, VAT returns, or self-assessment can trigger penalties and unnecessary stress. HMRC and Companies House are not forgiving when it comes to deadlines, even if it’s your first year. What to do:
- We will provide timely reminders of key deadlines, but it’s a good idea to mark in your calendar as soon as you incorporate.
- Submit returns early - don’t wait until the last minute. Again, we will help you do this by ensuring all your accounts are up-to-date.
- Familiarise yourself with all the features in FreeAgent, the cloud-based accounting system that you get as part of your Workwell accountancy package. It will help to save your time and ensure you never miss a deadline.
Mistake #7. Not Seeking Professional Advice Early Enough
Perhaps the most common mistake of all is trying to manage everything alone. Accountancy for contractors has its own quirks. Many contractors only turn to an accountant after they’ve made costly errors. What to do:
- We are specialist contractor accountants and can help you start out strong. We will not only manage compliance but also help you structure your company tax-efficiently.
- We will always endeavour to explain things clearly but don’t be afraid to say if something doesn’t make sense. Accounting can be complex even for one-person businesses.
Running your own limited company can be hugely rewarding, both financially and personally. But those early days can set the tone for your whole contracting career. By keeping business and personal money separate, planning for tax and VAT, claiming allowable expenses, and leaning on professional advice, you’ll avoid the traps that catch so many first-time contractors. With the right foundations in place, you’ll not only stay compliant but also work tax-efficiently. It may seem onerous at first, but in time the good habits will certainly pay off.