The grand that can cost more: rethinking the £1,000 trading allowance

At first glance the trading allowance looks like the simplest option on the self-assessment screen: deduct £1,000 from your trading income and move on. For plenty of side businesses, that is the right answer. For others, it quietly increases the tax bill. The allowance is not a bonus deduction; it is an alternative to deducting expenses.

What the allowance actually does

For the 2025/26 return, due online by 31 January 2027, a self-employed trader with gross trading income above £1,000 can choose to deduct the £1,000 trading allowance instead of actual allowable expenses. The choice applies to the trade. You cannot deduct the allowance and also claim expenses for the same income. If gross trading income is £1,000 or less, the allowance may remove the need to report that trade, subject to your other income and filing position.

The figure that matters is gross income, not profit. A trader with £20,000 of sales and £3,000 of expenses has gross income of £20,000. The allowance is available, but it may be the wrong choice. A trader with £900 of sales is in a different position altogether.

The arithmetic that decides it

The comparison is straightforward. Under the allowance, taxable profit is gross income minus £1,000. Under actual expenses, taxable profit is gross income minus allowable expenses. Choose the method that produces the lower taxable profit, provided the records support it and the wider consequences are acceptable.

Example 1: modest expenses

A freelance illustrator has £8,000 of gross income and £600 of allowable expenses.

• Trading allowance: £8,000 minus £1,000 = £7,000 taxable profit.
• Actual expenses: £8,000 minus £600 = £7,400 taxable profit.

The allowance is better by £400 of taxable profit. At basic rate, that is £80 less income tax; at higher rate, £160 less. The saving is real, and the record-keeping burden is lower.

Example 2: expenses above £1,000

A weekend furniture restorer has £12,000 of gross income and £1,800 of allowable expenses.

• Trading allowance: £12,000 minus £1,000 = £11,000 taxable profit.
• Actual expenses: £12,000 minus £1,800 = £10,200 taxable profit.

Actual expenses are better by £800 of taxable profit. At basic rate, the difference is £160; at higher rate, £320. Class 4 National Insurance and student loan repayments may add to the cash difference because they are calculated on profits. The allowance has become a more expensive convenience.

Example 3: the loss position

A craft seller has £3,000 of gross income and £3,400 of allowable expenses.

• Trading allowance: £3,000 minus £1,000 = £2,000 taxable profit.
• Actual expenses: £3,000 minus £3,400 = £400 loss.

Using the allowance here creates tax on £2,000 that the expenses method would not. It also gives up a loss that may be carried forward and set against future profits. The allowance cannot create or increase a loss. For a trader building a business, that can matter more than the simplicity.

Where the trap appears

Software often presents the allowance as a default or a helpful tick-box. A busy filer accepts it because £1,000 sounds generous. But the allowance is only generous relative to expenses below £1,000. Once allowable costs exceed that figure, the flat deduction usually loses. The mistake is not choosing the allowance in principle; it is choosing it without comparing the two figures.

There is a second, subtler trap. The allowance is not available on top of expenses, and it is not a tax reducer. It reduces trading income. That means it affects the profit figure used for income tax and, where relevant, Class 4 National Insurance. It does not reduce the tax bill by £1,000. A £1,000 deduction saves tax at the marginal rate, not the full amount.

A decision checklist before you file

Use this sequence before submitting the 2025/26 return:

1. Calculate gross trading income for the year. Do not start with profit.
2. Add up allowable expenses and confirm that you can evidence them.
3. Compare taxable profit under the allowance and under actual expenses.
4. Check whether actual expenses produce a loss, and whether that loss is useful.
5. Consider Class 4 National Insurance, student loan repayments and any other profit-linked charges.
6. Check that you have not claimed the allowance and expenses together.
7. Keep a note of the method chosen and the figures behind it.

If expenses are below £1,000, the allowance will often win on both tax and administration. If expenses are above £1,000, actual expenses will usually produce the lower profit. Near the £1,000 line, do the calculation rather than relying on a rule of thumb. A trader with £1,050 of expenses may find the difference small; a trader with £1,600 may find it material.

Records still matter

Choosing the allowance does not remove the need for records. You still need to show the gross income figure and support your choice. If you later amend the return or face an enquiry, a file of invoices, bank statements and receipts is the difference between a straightforward explanation and a difficult one.

The trading allowance is a useful simplification, not a universal saving. For a side hustle with few costs, it can be the cleaner and cheaper route. For a trade with real expenses, it can cost more than the paperwork it saves. The right answer is the one that matches your figures, not the one that appears first on the screen.