Sole trader tax in Australia

No one gets into business because they want to deal with tax - unless they’re an accountant or tax agent! But tax is inevitable, especially income tax.

While you may encounter other types of business taxes – GST, PAYG withholding, payroll tax, fringe benefit tax for example – income tax is the biggie. And even if you get someone else to handle the income tax for your business, having a basic understanding of how it works for a sole trader is important.

So that’s what we’re going to focus on. Buckle up.

Sole trader income tax

Sole traders are taxed as individuals and the sole trader tax rate is exactly the same as if you were employed by someone else. This makes sole trader income tax easier to manage than if your business structure is a company. It also means you only pay tax on your personal and business income above the tax-free threshold.

As a sole trader, you declare all your income in your individual tax return, using the section for business items to show your business income and expenses. You may be able to claim deductions for some of your business activities – for example, business travel, home office, or vehicle expenses. Your taxable income is your total income minus any deductions.

When is your sole trader income tax return due?

Sole traders have a financial year that begins 1 July and ends 30 June. If you lodge your individual income tax return yourself, it’s due by 31 October (or as advised by the ATO). If you use a tax agent they’ll tell you when it’s due.

If you don’t lodge your return on time you could receive a penalty. And you must lodge a tax return every year, even if your income is below the tax-free threshold or you’re making PAYG instalments. You can read more about PAYG instalments below.

You can lodge your income tax return, with the ATO using myTax, by mail, or through a registered tax agent.

Once your tax return is lodged, the ATO calculates how much tax you owe, or if you’re due a refund. The ATO then sends your notice of assessment and payment of any tax is due 21 days after you receive it.

What are PAYG instalments?

PAYG instalments are regular income tax prepayments that you make throughout the financial year. They make life easier by spreading the tax load, rather than you getting a big tax bill after you lodge your return.

As a sole trader, you’re automatically put into the PAYG instalments system if you have all of the following:

• instalment income* from your latest tax return of $4,000 or more
• tax payable on your latest notice of assessment of $1,000 or more
• estimated tax of $500 or more

*Your instalment income is your gross business and investment income, excluding GST and any capital gains.

If you’re not automatically put into the PAYG system, because you don’t meet the above criteria, you pay your income tax in one lump sum by the date shown on your notice of assessment.

However, you can also voluntarily make PAYG instalments. This is a good idea if it’s your first year in business or think your business income will be over the threshold. Voluntary instalments help smooth your cash flow throughout your first year and you can avoid a big tax bill in your second year. The ATO has a calculator that can help you estimate your income and instalment amounts. And you can increase or reduce the instalment amounts if your circumstances change.

Some small business owners choose to put their PAYG liability into a separate bank account so they have the cash handy when it comes due. It's a good idea to talk with your tax agent or accountant about the best ways to manage your PAYG instalments.

How are PAYG instalments calculated?

Unless your business is fortune-telling, you probably don’t own a crystal ball to tell you how much your income is going to be. So the amount of your PAYG instalments will generally be based on the previous year’s income.

There are two options; a predetermined instalment amount or a predetermined instalment rate.

If you’re eligible to choose, both options are shown in your first activity or installment statement of the year. You pick which one to use and that applies for the rest of the financial year.

Most sole traders use the predetermined instalment amount, but some opt for the predetermined instalment rate. It’s a good idea to discuss the benefits or drawbacks of each option with your accountant or tax agent.

1. Predetermined instalment amounts

The ATO calculates your PAYG instalment amounts for you. They’re based on the previous year’s instalment income and adjusted to reflect your likely income.

2. Predetermined instalment rate

You pay a percentage of your instalment income for the quarter or income year just gone. The ATO calculates your instalment rate as a percentage based on your previous year’s tax return. If you have no income in a quarter, your instalment amount will be zero.

When are PAYG instalments due?

Most sole traders pay their instalments quarterly.

At the end of each quarter, the ATO sends you either a Business Activity Statement (BAS) or Instalment Activity Statement (IAS). If you’re registered for GST you’ll get a BAS.

You can learn more about GST and BAS in our guide.

If you lodge online, you can find your activity statement in your ATO Online services account.

The due date for your payment is usually 28 days after the end of the quarter - 28 October, 28 February, 28 April, 28 July – unless you’ve lodged through a tax agent.

If you receive and lodge your statements online you might be able to get an extra two weeks to lodge and pay your instalment. And if you use a tax agent, they can lodge up to three weeks later.

How do you lodge and pay PAYG instalments?

There are a number of ways you can lodge your PAYG instalments.

• online through your myGov account and ATO’s online services
• through a tax agent or BAS agent

Business Activity Statement (BAS): You, or your BAS agent, completes and lodges it to report your PAYG instalment. And to make things simpler for you, the BAS covers both GST and PAYG instalments. You don’t need to report and pay them separately.

Instalment Activity Statement (IAS): You don’t need to complete or lodge it, unless you want to vary the amount. You simply pay the amount shown on the notice.

The easiest way to pay the ATO is electronically by BPAY, credit card or debit card.

Managing sole trader tax

Keeping on top of your tax obligations is important. Mistakes can be costly in the form of penalties. And poor tax management can affect your cash flow.

There are a number of things you can do to make handling your business tax easier, especially at the end of each financial year. These include using accounting software like Xero, keeping accurate records of your expenses and income, and getting bookkeepers, accountants and tax agents to help you. The majority of sole traders in Australia use some form of tax advisor and consult with them once or twice a year to check they’re managing their taxes correctly.