Guide
How to Calculate Profit Margin
A simple, practical guide for UK freelancers and small businesses. Learn the formula, see real examples and avoid the most common pricing mistakes.
What is profit margin?
Profit margin tells you what percentage of your selling price is actual profit. It is one of the most useful numbers in business because it shows how much money you keep from every pound of sales.
If you sell a product for £50 and it costs you £30 to make or buy, your profit is £20. Your profit margin is 40% — meaning 40 pence of every pound sold is profit.
Profit margin formula
The formula for profit margin is straightforward:
profit margin (%) = (selling price − cost) ÷ selling price × 100
In other words, work out your gross profit first, then divide it by your selling price and multiply by 100.
Example calculation
Let us walk through a simple example.
- Selling price: £50
- Cost: £30
(£50 − £30) ÷ £50 × 100 = £20 ÷ £50 × 100 = 40%
Your profit margin is 40%. That means for every £1 of sales, you keep 40p as gross profit.
Freelancer example
A freelance graphic designer charges a client £800 for a branding project. The designer’s direct costs (software subscriptions for the project, stock assets and an outsourced proofreader) come to £200.
(£800 − £200) ÷ £800 × 100 = £600 ÷ £800 × 100 = 75%
Ecommerce example
An online shop sells handmade candles for £24 each. The cost of wax, wicks, fragrance oils, packaging and postage comes to £12 per candle.
(£24 − £12) ÷ £24 × 100 = £12 ÷ £24 × 100 = 50%
Margin vs markup
This is where many small business owners get tripped up. Margin and markup are not the same thing.
- Margin = profit as a percentage of selling price
- Markup = profit as a percentage of cost
Using the same £50 sale and £30 cost:
Margin: (£50 − £30) ÷ £50 × 100 = 40%
Markup: (£50 − £30) ÷ £30 × 100 = 66.67%
Same profit, different percentage. If you quote a client ‘I add 50% markup’ but they expect a 50% margin, you will under-price the job. Always be clear which one you mean.
Common mistakes
1. Mixing up margin and markup
A 50% markup gives you a 33.3% margin, not 50%. If you need a 50% margin, you must mark up your cost by 100%. Use a profit margin calculator to check your numbers.
2. Including VAT incorrectly
VAT is not your revenue and it is not your cost — it is collected on behalf of HMRC. Always calculate margin using net (ex-VAT) prices. If your supplier quotes £120 including VAT, your cost is £100 (at 20% VAT). If you sell for £240 including VAT, your revenue is £200.
Use the VAT calculator to strip or add VAT quickly.
3. Ignoring hidden costs
Direct costs include more than just materials. Remember payment processing fees (Stripe, PayPal), packaging, platform fees (Etsy, Shopify, Amazon) and delivery. Missing even small fees can eat into your margin.
4. Forgetting that margin shrinks as price drops
If you discount a £50 product to £40 and your cost stays at £30, your margin drops from 40% to 25%. A 20% price cut can wipe out half your margin. Run the numbers before offering discounts.
Why profit margin matters for pricing
Knowing your margin helps you:
- Set prices that actually cover your costs and leave room for tax and overheads
- Compare products or services and focus on the most profitable ones
- Negotiate with suppliers — if you know your margin, you know exactly how much a cost increase hurts you
- Decide whether a project or client is worth taking on
A healthy margin is your safety net. It absorbs unexpected costs, gives you room to invest back in the business and means you are not running on thin air.
Try the calculator
Want to run your own numbers? Use the Profit Margin Calculator to work out margin, markup and target selling price instantly.
Frequently asked questions
What is a good profit margin for a UK small business?
It depends on the industry. Service businesses (consulting, design) often aim for 50–70%. Product and ecommerce businesses typically target 20–40%. Restaurants and retail may run on 5–15%. The right margin is one that covers your costs, tax and leaves you with a sustainable income.Should I use margin or markup when pricing?
Use margin when you want to know what share of every pound of revenue is profit. Use markup when you want a simple rule like ‘add 50% on top of cost’. Just do not confuse the two — a 50% markup is only a 33.3% margin.Do I include VAT in profit margin calculations?
No. Use net (ex-VAT) cost and net (ex-VAT) selling price. VAT is collected on behalf of HMRC and does not belong in your margin calculation.What costs should I include?
Include all costs directly tied to delivering the product or service: materials, labour, packaging, platform fees, payment processing and delivery. Do not include overheads like rent or software subscriptions in the gross profit margin — those come later when you calculate net profit.How is profit margin different from net profit?
Gross profit margin only looks at revenue minus direct costs. Net profit also subtracts overheads, tax and interest. A business can have a healthy gross margin but a low net profit if overheads are high.