Universal credit and self-employment: avoiding common issues

Some universal credit claimants are expected to look for work or increase their hours, and Department for Work and Pensions (DWP) work coaches may encourage people to take up self-employment as a route into work. Self-employment is a good option for some people, but we do sometimes see people who find themselves in difficult situations – where they unexpectedly lose benefits, acquire tax problems or both.

In our experience, this will usually be because of complex interactions and inconsistencies between the benefits and tax system, that are not always well understood by DWP advisers and as a result may be poorly explained to claimants.

Here are five key things to watch out for if you are claiming universal credit and considering self-employment:

Trading allowance confusion

If you make £1,000 or less in gross income from all trading or miscellaneous income in a tax year, you may qualify for trading allowance full relief. Gross income means before deducting any expenses. This means you don’t need to report the income to HMRC and you won’t pay tax on it. Trading or miscellaneous income covers things like income from a traditional self-employment, but also things like income from working via online platforms or income from a casual or one off activity.

But beware: the trading allowance is not recognised for universal credit. This means even if your income falls within the allowance for tax purposes, you still need to report it to the DWP for your universal credit.

We give an example on our trading allowance page.

Requirement to register self-employment with HMRC

HMRC say you must register with them as self-employed if you cannot use or do not want to use the trading allowance full relief (explained above). This triggers the requirement to file a Self Assessment tax return every year, even if you do not earn enough to pay tax. You’ll usually only pay tax if, when your self-employment profit is added to any other taxable income, your total exceeds £12,570. Note: Universal credit doesn’t count as taxable income. If you receive other benefits – you should check if they are taxable or not.

It’s not enough that DWP knows you’re self-employed — you must tell HMRC separately. Although they are both part of government, they do not always talk to each other and share all information about you in the way you might expect.

You can find out more about registering your self-employment with HMRC in our guidance.

Administrative burdens due to separate reporting systems

Currently, HMRC taxes you on your profits (income less expenses) across the whole tax year. This runs from 6 April to 5 April. Self-employed claimants must also provide submissions of income and expenses to DWP for universal credit. But profit, or in universal credit terms ‘self-employed earnings’, is assessed in each of the fixed monthly universal credit assessment periods.

For a start, the income and expenses figure you need to report for tax and universal credit, may not match - for an example see below. This means you may have to keep two sets of figures/records.

If you are in scope of Making Tax Digital (MTD) you will also need to submit four in-year submissions and an end of year tax return. This means you may need to make 17 different submissions to government in one year!

Find out more about when MTD will start for you on our dedicated MTD page.

Expenses Don’t Match Up

When calculating self-employed profits, HMRC allows a wide range of business expenses: tools, travel, equipment, home office etc. provided they meet the ‘wholly and exclusively’ test. However DWP doesn’t always count them the same way when working out your universal credit.

For example, when calculating self-employed earnings for universal credit, the rules as set out in  DWP Decision Makers Guidance, include a concept of 'reasonably incurred' (see 15580 and 15586 to 15589). This limits the expenses you can deduct to those that are ‘appropriate to the business, necessary and not excessive’.

So if you bought a laptop for your self-employment that was a particularly expensive model, under this rule, the DWP could refuse to allow some or all of the expense if they think you could have bought a cheaper one to meet the business needs. This reasonably incurred rule does not exist in tax law, where provided the expense meets the wholly and exclusively test, the amount of money involved does not matter.

You can find out more in our blog When is an expense not an expense. 

Mismatches between universal credit monthly basis and HMRC’s annual basis

If you have one ‘good month’ and eleven ‘bad months’, that one spike can affect subsequent universal credit awards due to surplus earnings. On the other hand, after a 12-month start-up period, if DWP agree you are ‘gainfully self-employed’, the Minimum Income Floor (MIF) rules will apply to your universal credit if you are in the all-work requirements group.

Under the MIF, DWP will treat you as having earned the equivalent to the minimum wage for the hours you are expected to work (for most people this will be 35 hours a week) — even if your actual income is lower.

The result is that fluctuations in income or large costs concentrated in one month can be treated harshly under universal credit. This may cause you unexpected financial problems, particularly as HMRC - by contrast - tax you on your actual profits, averaged across the year.

Conclusion

Self-employment can be the right path for some. But it can mean jumping into navigating two very different systems — one run by HMRC for tax, and one by DWP for benefits. Unless you understand the differences, you risk getting things wrong in both systems.

To avoid this, our advice is to do your research (see below), keep meticulous records, be prepared for extra admin and reporting, and get advice early from a welfare rights organisation like Citizens Advice or the tax charities if you get stuck with tax. See our getting help page for more details.

For more information on self-employment and universal credit, see our guidance. You may also find our report from 2017 highlighting the burdens for self-employed people in universal credit around how and when to report income interesting. Our complete guide to self-employment which will stand you in good stead for managing your tax position, may also be of help.