How Do You Know How Much Tax to Put Aside?
One of the easiest ways to create a tax problem is to treat every pound that enters your bank account as money you can spend.
For employees, much of the calculation is hidden because tax is normally deducted through PAYE before salary reaches the bank.
For sole traders, landlords and other people receiving income without tax deducted at source, it can be very different.
The money arrives first.
The tax bill arrives later.
So how much should you actually put aside?
There isn’t one percentage that works for everybody. The right amount depends on your profit, other income, allowances, National Insurance and whether payments on account apply.
Why putting aside a percentage of turnover can be misleading
Imagine your business receives:
£80,000 turnover
That does not necessarily mean you’re taxed on £80,000.
If you have £25,000 of allowable business expenses, your profit before considering other adjustments would be:
£55,000
Tax calculations generally start from taxable profit rather than simply the amount of money customers have paid into the business.
That distinction matters.
Someone saving 20% of every sale may save too much.
Someone spending everything left after business expenses may save nowhere near enough.
Start with expected annual profit
A better approach is to forecast the year.
For a sole trader, start with:
Expected turnover
minus
Expected allowable business expenses
which gives an indication of:
Expected business profit
Then consider the rest of your personal tax position.
That might include:
- Employment income
- Property income
- Savings interest
- Dividend income
- Pension contributions
- Other taxable income
- Tax already deducted
- Available allowances and reliefs
Tax is calculated across your wider circumstances, not by looking at the business bank account in isolation.
Don’t forget National Insurance
For self-employed people, Income Tax may not be the only liability.
Depending on your profits and circumstances, Class 4 National Insurance can also form part of the Self Assessment calculation.
HMRC’s payments-on-account rules can include both Income Tax and Class 4 National Insurance. GOV.UK
So saving enough for Income Tax while ignoring National Insurance can still leave you short.
A simple percentage can still be useful
Although an exact calculation is better, setting aside a percentage whenever income arrives can be a useful cash-management habit.
For example, a sole trader might transfer part of each customer payment immediately into a separate savings account reserved for tax.
The percentage should be based on their expected tax position rather than an arbitrary internet rule.
For one person, 20% might be sufficient.
For another, 30% may not be enough.
That is particularly true where profits move into higher tax bands or there are other significant sources of taxable income.
Example: putting money aside throughout the year
Suppose your forecast suggests you will eventually need approximately:
£12,000
for your Self Assessment liability and associated payments.
Rather than finding £12,000 close to the deadline, you could build the reserve progressively.
If you had 12 months to accumulate it:
£12,000 ÷ 12 = £1,000 per month
That turns a large future bill into a recurring cash-flow commitment.
The money still belongs to you until it is paid to HMRC.
But operationally, you can treat it as money already committed to tax.
Use a separate tax account
One of the simplest systems is to keep tax reserves separate from day-to-day spending.
You could have:
Main business account
Used for normal income and expenditure.
Tax reserve account
Used to accumulate money for future tax liabilities.
When income comes in, transfer the appropriate amount into the tax account.
This makes the available cash in your main account more representative of what the business can actually spend.
Your bank balance isn’t your disposable cash
Suppose your business account contains:
£30,000
It can feel as though you have £30,000 available.
But perhaps:
£8,000 is reserved for tax.
£5,000 is needed for VAT.
£4,000 is needed for payroll and other upcoming costs.
Your genuinely flexible cash position is very different from the headline £30,000 bank balance.
Separating these amounts helps prevent tax money being unintentionally used to fund normal business spending.
Payments on account can change the amount you need
This is the part many taxpayers underestimate.
Where payments on account apply, HMRC normally requires two advance payments towards the following Self Assessment bill.
They are usually due on:
31 January
and
31 July
and each is normally 50% of the relevant previous year’s liability. GOV.UK
That can make the first January payment substantially larger than expected.
Example: why saving only for the tax calculation can leave you short
Suppose your first Self Assessment liability is:
£8,000
You carefully save £8,000.
You assume you’re fully prepared.
But if payments on account apply, your January requirement could include:
£8,000 — current tax bill
plus
£4,000 — first payment on account
Total:
£12,000
Another £4,000 payment on account could then fall due in July.
HMRC confirms that where someone did not make payments on account in the previous year, the January amount can include both the full tax calculation and the first payment towards the following year’s bill. GOV.UK
So a proper tax reserve needs to consider more than the headline liability.
Not everyone has payments on account
HMRC says the two payments are generally not required where either:
- The relevant previous-year tax owed was less than £1,000, or
- More than 80% of the tax owed was collected outside Self Assessment. GOV.UK
For example, somebody who has substantial PAYE deductions may have a different position from somebody whose income is predominantly self-employed.
What if your income changes every month?
This is common for:
- Freelancers
- Contractors
- Consultants
- Tradespeople
- Seasonal businesses
- Commission-based businesses
A fixed monthly transfer may not work particularly well.
Instead, you could calculate your reserve as a percentage of income or estimated profit and update the forecast regularly.
A strong month means more goes into the tax reserve.
A quieter month means less.
The important thing is that the annual forecast is periodically checked against what is actually happening.
Review your forecast during the year
Don’t calculate your tax reserve in April and ignore it until the following January.
Your position can change significantly.
For example:
April forecast
Expected profit: £45,000
October forecast
Expected profit: £70,000
If you’ve continued putting money aside based on the original £45,000 estimate, your reserve may now be inadequate.
Regular forecasting allows you to increase contributions gradually rather than discovering a major shortfall at the end of the year.
What if profits fall?
The same principle works in reverse.
Suppose last year’s business performance was unusually strong but this year’s profits have fallen.
Your payments on account may consequently be higher than the eventual liability requires.
HMRC allows taxpayers to claim to reduce payments on account where they expect their Self Assessment liability to be lower. Reasons can include falling business profits or other income, increased tax relief or more tax being deducted at source. GOV.UK
However, reducing them too far can result in interest being charged on the shortfall. GOV.UK
Don’t forget income outside the business
This is another common mistake.
You might calculate the expected tax on your self-employed profits correctly but forget that you also have:
- A second job
- Rental income
- Dividends
- Taxable savings interest
- Other taxable income
Your Self Assessment calculation can bring multiple income sources together.
So your tax reserve should be based on your overall expected position, not simply one business.
What about VAT?
VAT should normally be considered separately.
If you’re VAT registered and collect VAT from customers, that VAT should not automatically be treated as business income available for spending.
Keeping a separate reserve for expected VAT liabilities can make cash management significantly clearer.
For example, you might maintain separate pots for:
Tax
VAT
Operating cash
This gives you a much clearer view of what money is genuinely available.
Limited company directors are different
If you operate through a limited company, the calculation becomes different again.
There may be several separate tax liabilities to plan for, including:
- Corporation Tax
- PAYE and National Insurance
- VAT
- Personal tax on dividends
- Personal Self Assessment liabilities
The company’s Corporation Tax liability is not the same thing as the director’s personal tax liability.
Mixing the two together can create misleading cash-flow forecasts.
A limited company should therefore forecast both its company-level taxes and any personal tax liabilities arising for its directors or shareholders.
Don’t wait for your accountant to tell you the number after year-end
Year-end accounts tell you what has already happened.
Cash-flow planning needs to look ahead.
If your accountant estimates your tax liability only after the year has ended, you may technically know exactly what you owe — but have very little time to find the money.
Regular management information can give you an earlier indication.
By October, for example, you may already have enough information to estimate:
Expected annual profit
Approximate tax liability
Existing tax reserve
Expected shortfall or surplus
That gives you time to adjust.
Filing your return early can help
HMRC encourages taxpayers to submit their Self Assessment returns early.
For the 2025/26 tax year, HMRC says filing early does not mean the normal tax bill must be paid before 31 January 2027. Filing earlier simply gives you more time to know what you owe and budget for it. GOV.UK
That can be particularly useful if your own tax estimate has been approximate.
Once the return is prepared, you can compare the actual liability with the money you’ve already reserved.
HMRC also offers a Budget Payment Plan
If you’re up to date with your previous Self Assessment payments, HMRC allows eligible taxpayers to make regular weekly or monthly payments towards their next bill through a Budget Payment Plan.
HMRC says you choose how much to pay and can use the plan to build towards the next liability. If the plan does not cover the full bill, the balance still needs to be paid by the deadline. GOV.UK
This is different from simply keeping the money in your own tax savings account, but it can be useful for people who prefer to pay HMRC gradually.
A practical monthly routine
A simple system could look like this.
At the end of every month:
1. Update your income
Check what the business has actually earned.
2. Update your expenses
Make sure your bookkeeping is current.
3. Review year-to-date profit
Compare actual performance with your forecast.
4. Estimate the tax position
Consider your business profit alongside other taxable income and relevant deductions.
5. Check your tax reserve
Compare the estimated liability with the cash you’ve already put aside.
6. Adjust the monthly transfer
Increase or decrease the amount being reserved where appropriate.
That is much more reliable than simply hoping enough money will be available in January.
Frequently Asked Questions
What percentage of my income should I save for tax?
There is no universal percentage that works for everyone. The appropriate amount depends on your taxable profit, other income, allowances, reliefs, National Insurance and whether payments on account apply.
Should I save tax based on turnover or profit?
For a sole trader, tax is generally based on taxable profits rather than simply turnover. However, using a percentage of incoming cash as a practical saving mechanism can still work if the percentage has been calculated from a sensible forecast.
Should I have a separate bank account for tax?
It isn’t generally necessary simply for Self Assessment purposes, but many people find a separate tax reserve useful because it stops tax money being confused with everyday spending cash.
Do I need to save for payments on account as well?
If payments on account apply to you, yes — they need to be included in your cash-flow planning. HMRC normally requires two instalments, due on 31 January and 31 July. GOV.UK
What if I’ve saved too much?
That’s not necessarily a problem. Once your actual liability is established, the excess remains available to you rather than creating a last-minute shortfall.
What if I haven’t saved enough?
Calculate the expected shortfall as early as possible and create a plan to close it before the payment deadline. Waiting until January gives you fewer options.
Final thoughts
There is no magic answer to:
“What percentage should I put aside for tax?”
The better question is:
“Based on what I’m actually likely to earn this year, how much tax am I likely to owe?”
Forecast that figure.
Include payments on account where relevant.
Keep the money separate.
Then review the calculation as your income changes.
That turns tax from an unpleasant January surprise into a predictable business cost.
At Merranti Accounting, we can help forecast your expected tax liability, calculate your payments on account and give you a clearer figure for how much you should be reserving throughout the year.
Written by Jason Fudge
Managing Director, Merranti Accounting
Jason is Managing Director and co-founder of Merranti Accounting. He works with business owners on financial management, commercial strategy, business planning and building stronger financial systems around growing businesses.
