The £6,000 annual cost of going self-employed and how to avoid it

Going self-employed can bring plenty of freedom and flexibility but it also means giving up attractive workplace perks.

More than 4.5 million people run their own business. While they may benefit from managing their own schedule and more tax-efficient ways to withdraw cash, such has from a limited company, there are downsides.

Research by business insurance provider Protectivity warns the self-employed community are giving up an average of £6,428 worth of workplace benefits per year such as sick pay and holiday pay. In pension contributions alone, the lifetime shortfall could exceed £119,000.

Based on typical self-employed earning, the analysis suggests a freelancer would need to work an additional 16.5 days, more than three full working weeks, on top of their normal workload every year to break even with an employed worker to get the same benefits.

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Chris Trotman, head of sales and underwriting at Protectivity, said: “Self-employed workers are an essential part of the UK economy, and it’s clear that the vast majority wouldn’t trade the flexibility or autonomy that working for themselves allows.

“It does, however, come with financial risks that employment automatically absorbs and a lot of people don’t fully grasp the scale of that gap until they’re up against it.”

Here are the workplace perks you give up when going self-employed.

Paid annual leave

Full time employees in the UK are entitled to 28 days of paid annual leave per year including bank holidays

For employee on the average median salary of £39,039, that equates to £4,704 of paid time off.

Sick pay

The average UK employee takes 4.4 sick days per year, according to the research, worth an estimated £740 at median earnings, which would usually be covered by their employer at full salary.

In contrast, 79% of self-employed people who took a period of sickness absence in the last year said they received no income whatsoever during that time, according to Protectivity.

The research found that self-employed workers take 35% fewer sick days than employees, not because they’re healthier, but because they ‘can’t afford’ to take time off.

Pension contributions

Under auto-enrolment rules, employers must contribute a minimum of 3% of qualifying earnings into an employee’s pension, which is worth approximately £984 a year at the median salary.

You don’t get this if you are self-employed; instead you need to set up your own pension.

Compounded over a full working career at a standard 5% annual growth rate, those missed employer contributions could amount to more than £119,000 in lost retirement savings, according to the research.

Mortgages

It can also be harder to get a mortgage if you are self-employed as your income may fluctuate and be hard to prove.

Stephen Perkins, managing director of Yellow Brick Mortgages, said: “Those early years can also involve lower profits as businesses invest and grow, which may reduce how much you can borrow.

“It shouldn’t put anyone off starting a business, but if you’re also planning to buy your first home or move within the next couple of years, it’s well worth factoring into your decision.”

How to prepare for lost perks

Replicating an employed package including a pension, insurance cover and paid time off quietly swallows between a fifth and a third of gross income on top of tax, says Anita Wright, chartered financial planner at Ribble Wealth Management.

She adds: “Nobody prices it in, because benefits are invisible right up until you need them.”

However, she suggests that autonomy and tax flexibility are real compensation as long as you can reflect the other costs in the rate you charge clients.

Another way of looking at it is that you could design your own benefits package, although you need to pay for it.

Samuel Mather-Holgate, managing director at advisory firm Mather and Murray Finance, said: “Income protection, life cover, private medical insurance, pension contributions, training, holidays and parental leave all have to be priced into your fees and paid for deliberately.

“That can feel painful, because the cost is visible in a way employer benefits rarely are. But visibility is not the same as waste.

“Many of these costs may be tax-deductible where they are genuine business expenses, and pension contributions can be tax-efficient too. The real mistake is treating self-employment income as take-home pay. A self-employed person needs to build the employer into their own pricing, otherwise freedom can quickly become fragility.”