VAT - Is that really business entertainment?
VAT paid on the cost of business entertainment can’t be reclaimed. However, what counts as entertainment and what is a general business staff-related expense isn’t always clear. How and why will it benefit you to identify the difference?
VAT versus direct tax
Tax rules block deductions or relief for most types of business entertaining expenses. The block covers income and corporation tax as well as VAT. But unlike the rules for the first two taxes those for VAT differ. VAT rules allow you to apportion any expense and reclaim the VAT you’ve paid on the business element. By comparison, the income and corporation tax rules only allow this where the business expense is clearly a separate and identifiable amount.
Entertainment or staff cost
HMRC’s interpretation of the direct tax rules is that a business can’t claim a deduction for any part of the cost of an employee taking a customer for lunch even though had the employee dined alone the cost would be deductible as subsistence (subject to the usual conditions). In contrast, for VAT purposes HMRC accepts that the rules permit you to divide a bill and reclaim that relating to the employee.
Where the only reason for the expense is entertainment, VAT can’t be reclaimed even where part of the cost relates to an employee. This rule applies, for example, where the employee is acting as host for the purpose of the entertainment.
This doesn’t apply if the reason the employee is present when the customer etc. is being entertained is as a benefit in kind specifically for the employee, say to improve staff morale or as a reward for especially good work. In that situation it counts as an expense of employment and so VAT can be reclaimed on the related costs. For the same reasons HMRC also accepts that you are entitled to a direct tax deduction.
Apportioning the cost
If, for example, an employee buys a meal for a customer etc. and themself, you’ll need to apportion the bill to work out what you can reclaim. The rules say this must be done in a “fair and reasonable” way.
In most cases splitting the bill equally according to the number of persons involved will be fine. For example, if your employee takes the MD and sales manager of one of your customers for a meal, a third of the VAT can be reclaimed. HMRC doesn’t expect you to identify who ate and drank what. However, if there are clear and easily definable costs relating to the employee or the customer etc. you should apportion the VAT accordingly.
Make sure that your employees know to identify on their expenses claims the cost of any expense where entertainment is involved and how much of it is attributable to them and how much to the customer etc.
If you haven’t apportioned your employees’ entertainment expenses in the past, remember, that you can look back up to four years prior to the start of the current VAT return period and reclaim the VAT on your next return. If the previously unclaimed VAT comes to less than £10,000 you don’t need to tell HMRC about it.
If an employee is present at an entertainment event as a host you can’t reclaim any VAT relating to the costs relating to them. Conversely, you can reclaim VAT paid if the employee incurred the cost in the course of doing their job, e.g. they pay for lunch for a customer while on a routine visit.
Can you benefit from rent-a-room?
The rent-a-room scheme allows people to earn rental income tax-free when they let out a furnished room in their own home. You do not have to own the property – rooms sub-let in rented properties also count (but check that sub-letting is allowed under the terms of the tenancy agreement). You can also benefit from the scheme if you run a bed-and-breakfast or guest house.
Automatic exemption for rental income of £7,500 or less
If the rental income that you receive from letting a furnished room in your own home is £7,500 a year or less, the exemption applies automatically. You do not need to tell HMRC about the income or complete a tax return.
If more than one person receives the rental income, the limit is halved to £3,750 per person. This limit applies regardless of the number of people receiving the income, even if the total comes to more than £7,500.
Sisters Abigail, Anna and Anita live in a property that they own together. They let out two furnished rooms, receiving rental income for the tax year of £9,000. Each sister receives £3,000, which is less than their individual rent-a-room limit of £3,750. All the rental income is tax-free and does not need to be returned to HMRC. It does not matter that the total is more than £7,500, as each person’s share is within their individual limit.
Rental income of more than £7,500
If the rental income is more than £7,500 (or more than £3,750 per person where more than one person receives the income), you can still benefit from the scheme. However, you will need to complete a tax return and choose to opt in. If you do this, you simply pay tax on the excess over your rent-a-room limit.
Benny lets three furnished rooms in his home receiving rental income of £9,000 for the tax year. He opts into the rent-a-room scheme and is taxed on a rental profit of £1,500 – the amount by which his rental income exceeds his rent-a-room limit of £7,500.
Using the rent-a-room scheme is beneficial if the limit is more than your expenses as it will reduce your taxable profit.
You cannot create a loss by deducting the rent-a-room limit rather than actual expenses. If your rental income is less than the limit, the relief applies automatically and there is no tax to pay or anything to report.
If your rental income is below £7,500/£3,750 as relevant and less than your expenses, it is not worthwhile using the scheme.
If you make a loss, it is better to opt out of the scheme and preserve the loss, which you can then carry forward and set against any future profits. To do this, you will need to complete a tax return and opt out of the scheme.
Cryptocurrency - what is a sale - gain or income?
Cryptocurrencies, such as Bitcoin, are a type of electronic cash; designed to stand apart from any government or bank they work through a computer network. Records confirming Individual ownership of the 'coins' are stored in a digital ledger with secure transaction records. Coins can be bought or sold with other currencies, used to purchase goods from sellers who are willing to accept cryptocurrencies as payment, make investments in various assets and as investments themselves. However, the 'downside' is that the system is unregulated with no central bank or government to support the currency should something go wrong.
It has taken a long time to be accepted as a currency in its own right but in April 2022 HMRC announced moves to recognise one type of cryptocurrency ('Stablecoins') as a valid form of payment. Such tokens are intended to maintain a 'stable' value typically pegged to a currency.
Tax charge - Published in March 2021, HMRC’s Cryptoassets Manual outlines HMRC's view of the tax position confirming that in the majority of circumstances the investment will be subject to Capital Gains Tax (CGT) on disposal. However, Income Tax and National Insurance contributions will be charged on cryptoassets received from:
an employer as a form of non-cash payment;
mining, transaction confirmation or airdrops; or
where the individual runs a business carrying on a financial trade in cryptoassets - this will be deemed as taxable trading profits.
Therefore CGT will be relevant on disposals as follows:
Selling for any other currency - crypto or not.
Exchanging tokens for a different type of token.
Paying for goods and services.
Gifting unless to a spouse or civil partner.
There will be transactions where there will be no CGT disposal e.g. if an owner moves tokens between “wallets” such that no transaction takes place as the owner retains beneficial ownership.
Certain costs on disposal can be deducted:
transaction fees paid for having the transaction included on the distributed ledger;
advertising for a purchaser or a vendor;
professional costs to draw up a contract for the acquisition or disposal of the tokens; and
costs of making a valuation or apportionment.
Calculation of cost - HMRC has precise guidance for crypto cost basis methods. Unless the token can be identified with the sale of particular tokens then HMRC requires the 'pooling method' to be used. Such a method already applies to shares and securities with the TCGT Act 1992 stating that it also applies to ‘any other assets where they are of a nature to be dealt in without identifying the particular assets disposed of or acquired - hence the use for any trading in cryptocurrencies.
The three possible methods of calculation are:
Same-Day: matching purchases and sales of the same day .
Bed and Breakfast: matching sales within 30 days of purchase ('first in first out' basis),
'Pooling': if the two rules above are not relevant, the cost of any coin is calculated by adding up the total amount paid for all assets and dividing it by the total amount of tokens held to find the value per token. The pool is an aggregate of all the acquisitions which are not sold within the subsequent 30 days. Therefore, an average cost for the cryptoassets in the pool is maintained and a pro-rata cost is deducted from disposals using the matching rules.
Practical Point - Proof that HMRC is taking an increased interest in such transactions was confirmed when, in August 2019, crypto exchanges that have business in the UK, such as eToro, Coinbase and CEX.IO, received letters from HRMC requesting customer data and transaction history. Following which, in November 2021, HMRC issued letters reminding those who have traded in cryptoassets of their responsibilities to report gains through a self-assessment tax return.
Does HMRC have the right to amend your tax code?
HMRC is busily issuing PAYE codes for 2022/23, which starts in just a few weeks. With that in mind a recent ruling by a First-tier Tribunal (FTT) is a reminder of what HMRC can and can’t include in your tax code. What were the key points in the ruling?
The case - Richard Thomas (T) had been a tribunal judge before retiring in 2020 and so had a good understanding of tax. He took exception to HMRC amending his tax code in late 2020, in respect of his civil service pension. It did so to collect further tax it estimated was due on a payment T received from the civil service after he had ceased employment and for which a P45 had been issued. Basic rate tax had been deducted from the payment but HMRC believed T would be liable to the higher rate. T appealed to the First-tier Tribunal (FTT) on the grounds that HMRC could not be sure how the tax it would collect from the revised code would the right amount.
A pyrrhic victory
After an exchange of correspondence HMRC reinstated T’s PAYE code (more or less) and withdrew its argument from the FTT. However, on a point of principle T pushed ahead with his appeal. In its decision the FTT accepted it had the right, but was not obliged, to decide what the correct code was. On the face of it might look like a win for the taxpayer. However, HMRC had already reinstated the code T asked for so he didn’t gain anything. Plus, on the key points the FTT agreed with HMRC that it was entitled to make the original adjustment to T’s code even though it later backtracked.
Despite the rather pointless hearing it’s a useful reminder that you have the right to appeal against a code number, if necessary all the way to the FTT. There are rules which HMRC is bound by when calculating your code, which increasingly it tends to ride roughshod over.
Getting your code right - As a general rule, HMRC only has a right to reduce your tax code to collect tax on PAYE income, e.g. state and private pensions, benefits in kind. It can also adjust your code to collect tax you have underpaid, or that it estimates you will have underpaid for the current tax year. In spite of the rules, HMRC officers often take a more cavalier approach to calculating codes and attempt to use them to collect tax on all sorts of income. While it’s allowed to do this, subject to restriction, you do not have to accept what amounts to collecting tax sooner than it is due. Below is a list of items HMRC often includes in tax codes for which you have the right to ask it to remove:
property rental income
profits from self-employment
taxed investment income or dividends
untaxed investment income, e.g. bank interest.
If you have income that falls into the list above, but is no more than, say, £500 per year, it’s probably more convenient to pay the tax through your code.
Remember that while your tax code determines the amount of PAYE tax that will be deducted from your employment income or private pension, your correct tax liability is determined by your self-assessment or HMRC review. Nevertheless, there is no reason to accept a tax code which results in you paying tax sooner than you need to.
HICBC – not just for higher rate taxpayers
The High Income Child Benefit Charge (HICBC) is a tax charge that claws back payments of child benefit where the recipient or the recipient’s partner has income of at least £50,000 per year. Where both the recipient and their partner have income of this level, the charge is levied on the one with the higher income. The scope of the charge may mean that it falls on someone who did not receive the benefit and who is not a biological or adoptive parent of the child/children in respect of which the benefit was paid.
For 2022/23, child benefit is payable at the rate of £21.20 for the eldest child and at the rate of £14.45 per week for subsequent children.
The HICBC applies where the recipient of the benefit or their partner has ‘adjusted net income’ of at least £50,000 a year. This is taxable income before personal allowances, but after gift aid and pension payments.
The HICB charge claws back 1% of the child benefit paid for every £100 by which adjusted net income exceeds £50,000. Where adjusted net income is £60,000 or above, the HICBC is equal to the child benefit paid for the tax year.
Basic rate taxpayers and HICBC - Despite its name, a person can be a basic rate taxpayer and still fall within the scope of the HICBC.
For 2022/23, a person in receipt of the standard personal allowance of £12,570 with no adjustments will not pay higher rate tax until their income exceeds £50,270. However, the HICBC bites where income exceeds £50,000. A person with income of £50,270 in receipt of child benefit will face a HICBC of 2.7% of their child benefit, despite being a basic rate taxpayer.
Pay the charge - Where the charge applies, the person liable for the charge must complete a self-assessment tax return and pay the charge, with any other tax and National Insurance due under self-assessment, by 31 January after the end of the tax year to which the charge relates.
Stop the benefit - Where income is at least equal to £60,000, the HICBC claws back all the child benefit received in the tax year. Consequently, there is no net benefit to receiving the child benefit, and there is the added hassle of completing the relevant section of the self-assessment tax return and paying the tax. As a result, it may be preferable not to receive the child benefit in the first place.
The recipient can elect to stop receiving child benefit by completing the online form or contacting the Child Benefit Office by phone or by post.
However, child benefit paid for a child under the age of 12 earns National Insurance credits that allow the year to be treated as a qualifying year for state benefit purposes. Consequently, anyone entitled to child benefit should still register for the benefit, even if they elect not to receive it, in order to benefit from the associated National Insurance credits. This is particularly important where the recipient does not pay sufficient National Insurance for the year to be a qualifying year but their partner would be liable for the charge if the child benefit is paid.
CGT or IHT
Sometimes there is a choice of which tax to pay and where a person owns an investment property, they may be able to exercise a degree of choice whether they take a capital gains tax hit or their beneficiaries pay inheritance tax. However, there is something of a gamble here – while capital gains tax is chargeable at a lower rate than inheritance tax, if the donor fails to live for at least seven years from the date of the gift, IHT may also be payable.
CGT and gifts - The capital gains tax rules on gifts depend on the relationship between the donor and the recipient. Where an asset is given to a spouse or civil partner, no capital gains tax is payable as the transfer is deemed to be at a value that gives rise to neither a gain nor a loss.
However, if the gift is to a connected person, such as a child, the transfer is deemed to be at market value (regardless of whether any consideration changes hands). A gift to someone else other than at arms’ length is also deemed to be at market value. This may trigger a capital gains tax liability on the donor.
However, if an asset is left to a person on death, there is no capital gains tax to pay. The property is included in the deceased’s estate at market value. While there may be IHT to pay, there is a tax-free uplift for capital gains tax purposes as the beneficiary’s base cost for CGT is the market value at death.
Gifts and inheritance tax - Lifetime gifts (other than to spouses and civil partners) are potentially exempt transfers for inheritance tax at the time that they are made. There is no inheritance tax to pay at the time of the gift. However, if the donor does not survive seven years from the date of the gift, the gift is taken into account when working out inheritance tax on death. Depending on the value of the estate and whether the nil rate band has already been utilised, inheritance tax may be payable, even if capital gains tax was paid by the donor. While taper relief is available where the donor survives at least three years, there is no relief for any capital gains tax paid on the gift.
There is no inheritance tax on gifts to spouses and civil partners, whether made during the donor’s lifetime or on death.
Case study - Albert has a holiday cottage valued at £500,000. The cottage cost £200,000. He wonders whether it would be worthwhile giving the cottage to his daughter while he is alive to save tax. He is a higher rate taxpayer.
If he gives her the cottage when its value is £500,000, he will pay capital gains tax of £84,000 ((£500,000 - £200,000) @ 28%). Costs of acquisition and sale are ignored for simplicity.
If he dies while the cottage is worth £500,000, it is included in his death estate and if not covered by the nil rate band, then his estate will pay inheritance tax of £200,0000 (£500,000 @ 40%).
He gives the cottage to his daughter and pays £84,000 in CGT.
He lives another 10 years. At the time of his death, the cottage is worth £900,000. There is no inheritance tax to pay on the cottage, but if his daughter sells the cottage, she will pay capital gains tax to the extent the consideration exceeds £500,000. Had he held on to the cottage, inheritance tax of £360,000 (£900,000 @ 40%) would have been payable by his estate.
However, if he dies a year after making the gift, assuming his nil rate band has been used up by earlier gifts, the estate will pay inheritance at 40% on the gift (£200,000) in addition to the £84,000 capital gains tax Albert has already paid.
Corporation tax – are you ‘associated’?
The corporation tax rules are changing from 1 April 2023, and the amount that a company will pay will depend on the level of its profits, and also whether or not it has any associated companies.
From 1 April 2023, companies with profits below the lower limit will pay corporation tax at the small profits rate of 19%, while companies whose profits exceed the upper limit will pay at the main rate of 25%.
Where profits fall between the lower limit and the upper limit, corporation tax will be paid at the rate of 25%, as reduced by marginal relief.
For a company with no associated companies, for a 12-month accounting period the lower limit is £50,000 and the upper limit is £250,000. Where a company has associated companies, the limits are divided by the number of associated companies plus one.
The following table shows the limits for companies with zero to five associated companies:.
Number of associated companies Lower limit Upper limit
0 £50,000 £250,000
1 £25,000 £125,000
2 £16,667 £83,333
3 £12,500 £62,500
4 £10,000 £50,000
5 £8,333 £41,667
What is an associated company? - A new definition applies from 1 April 2023 to determine whether a company is an associated company for the purposes of the new corporation tax rules. For these purposes, a company is an associated company of another at any time when:
However, a company is ignored in determining the number of associates that a company has if it has not carried on a trade or business at any time in the accounting period or if it was an associated company for only part of the accounting period and has not carried on a trade or any business during that part of the accounting period.
Meaning of ‘control’ - The definition of ‘control’ is that which applies for the purposes of the close companies rules.
Under this definition, a person is treated as having control over a company if that person exercises, is able to exercise or is entitled to acquire direct or indirect control of the company’s affairs. In particular, a person is treated as having control of a company if the person possesses or is entitled to acquire:
If two or more persons together satisfy any of the above tests, then they are treated as having control of the company.
Rights that the person is entitled, or will be entitled, to acquire at a future date are taken into account. Certain rights and powers may also be attributed to a person in determining whether they have control, including those of companies that the person (alone or with an associate) control and those of their associates.
Example - Freya has two personal companies, F Ltd and G Ltd. She is the sole shareholder in each. Both companies are under her control and consequently are associated with each other.
P11Ds - what’s new for 2021/22?
HMRC recently published its latest guidance regarding the reporting of employee benefits and expenses for 2021/22.
You’re probably aware of the approaching deadline for reporting details of benefits and expenses provided to employees in 2021/22. But in case it’s slipped your mind, the information must be provided on Forms P11D (or electronic equivalent) to HMRC by no later than 6 July 2022, along with a covering declaration Form P11D(b) . Any Class 1A NI contributions payable in respect of the benefits must be paid to HMRC by 19 July or 22 July if you pay electronically.
There’s been a change this year to the process for completing and submitting Forms P11D and P11D(b) . One of the options previously available, HMRC’s interactive PDF, known as the “Online End of Year Expenses and Benefits service” has been scrapped. Instead, you must submit the information and declaration via your HMRC “PAYE Online service” or by using P11D software.
HMRC has working sheets to help you calculate the amounts that need to be reported for the benefits with more complex rules such those for company cars, cheap rate loans and employer-provided accommodation. All the worksheets have been updated for 2021/22.
HMRC is also reminding employers that some employee benefits and expenses that would normally be reportable were exempt for 2021/22. The temporary exemptions relate to payments and costs related to coronavirus and the lockdowns. The precise terms of the exemptions often aren’t as straightforward as they seem at first sight, especially those relating to homeworking. To avoid HMRC enquiries and possible penalties, if you’ve provided benefits you think might be exempt it’s advisable to check that all the conditions are met before omitting them from your Forms P11D .
HMRC’s interactive PDF Form P11D is no longer available. Instead, use your HMRC PAYE Online account or software to submit the information. Don’t overlook the temporary exemptions relating to coronavirus-related benefits.
How to claim tax relief for employment expenses
If you are an employee and you personally incur expenses in carrying out your job, you may be able to claim tax relief for those expenses. Relief is only available for expenses that you must incur, rather than those that you choose to incur, and the expenses must be incurred wholly, necessarily and exclusively in performing the duties of your job. Relief is not available for expenses that you incur to enable you to be able to do your job, such as childcare costs, nor it is available for private costs. Separate tests apply to travel expenses – relief is available for business travel but not private travel, which includes the ordinary commute.
Typical expenses - Although the expenses that an employee may incur will vary depending on the nature of their job, popular expenses for which claims may be made include travel costs, additional costs of working from home, professional fees and subscriptions, work clothing and tools and equipment.
Travel expenses - If you have to travel for your job and your employer does not meet the cost of the associated travel expenses, you may be able to claim a deduction. Typical travel expenses include public transport costs, parking fees, congestion charges and tolls and, where you travel by car, mileage costs. For most expenses the deduction is the amount that you spent. If you use your own car, you can claim a mileage allowance of 45p per mile for the first 10,000 business miles in the tax year, and 25p per mile thereafter. If your employees pays you an allowance, but it less than the approved rates, you can claim a deduction for the difference. If you have a company car, you can claim a deduction for fuel based on HMRC’s advisory fuel costs. If you do not want to use the flat rates, you can instead claim a deduction based on the actual costs, but this will involve more work.
In the event that you have to stay away overnight, you can claim the cost of any overnight accommodation and food and drink.
Working from home - If you are required to work from home, you can claim a fixed rate deduction of £6 per week (£26 per month) for additional household costs incurred as a result of working from home. If preferred, you can claim the actual amount of extra costs that you have incurred from working from home, but you will need bills and receipts to support your claim.
Professional fees and subscriptions - If you have to pay a professional fee to be able to do your job and you meet the cost yourself, you can claim a deduction. You can also claim a deduction for any subscriptions that you pay to approved professional bodies or learned societies that are on HMRC’s list.
Work clothing and tools - If you are required to wear specialist clothing to do your job, you may be able to claim the cost of cleaning, repairing or replacing that clothing. However, you are not allowed a deduction for the initial cost.
Similarly, you can claim a deduction for the cost of replacing or repairing any small tools that you need to do your job and which you provide yourself, but not the initial cost of those tools.
Making the claim - If you need to complete a self-assessment tax return (which may be the case if you also have income from employment or investment income), you can make the claim in your tax return.
If you do not need to complete a tax return, you can either make the claim online or by post on form P87.
Online claims can be made using the online service on the Gov.uk website. You will need to sign in using your Government ID and password. You can make a claim for multiple tax years, and also for up to five different jobs. It is advisable to make sure that you have all the information that you need before starting the claim. Once you have made the claim, you will be given a reference number which you can use to track the progress of the claim.
You can also make a claim by post on form P87, which is available on the Gov.uk website. Again claims can be made for multiple tax years and also for up to five jobs. From 7 May 2022, HMRC will only accept postal claims on form P87; previously claims could be made by letter.
'Trivial benefits' – PAYE
Legislation surrounding 'Trivial Benefits' was introduced to save employers from having to report relatively small amounts given to employees as taxable on a form P11D.
Under the rules there are no tax or NIC consequences for the employee receiving the benefit of the gift:
The exemption can apply to as many times a year as required however, if there is a specific exemption for a benefit then that takes precedence over the trivial benefits exemption e.g. the exemption for the cost of a firm’s Christmas party.
As an anti-avoidance measure there is an additional monetary cap provided to directors and their families. The total cost to the company must not exceed £300 per tax year, e.g. six benefits of up to £50 each or any other combination so that the individual cost is less than £50 and the annual cost less than £300.
At first reading the conditions are relatively straightforward but look deeper and there are some situations where an employer may unwittingly fall foul of the rules. For example, HMRC has confirmed that while providing a gift card of £10 would initially fall within the exempt rules, topping up the same card with £10 more than four more times in the tax year will take the total of the benefit over the £50 limit. In this situation, the whole series of gifts will be considered a single benefit that fails to meet the trivial benefit conditions so both the original gift and the top-ups will be taxable.
One way to circumvent the £50 rule is to lend the item to the employee rather than gift. A typical example of this is when an employer provides a work outfit. If the clothing counts as protective or uniform, there are no tax or NIC implications anyway. However, where this is not the case consideration should be made to either provide each clothing item as a separate gift or lending the item to the employee. The benefit in kind for lending the item will be 20% of the item’s value when first provided to the employee, plus any maintenance costs, e.g. dry cleaning, per year. As long as these amounts total less than £50 the trivial exemption can apply.
Should I change my accounting date?
In preparation of the introduction of MTD for income tax, which comes into effect from 6 April 2024 for unincorporated businesses and landlords with trading and property income of more than £10,000 the basis period rules are being reformed.
At present, once an unincorporated business is established, it is taxed on the current year basis. This means that the profits which are taxed for a particular tax year are those for the accounting period that ends in that tax year. For example, if an established business prepares it accounts to 30 June each year, for 2022/23 it will be taxed on the profits for the year to 30 June 2022, as this is the year that ends in the 2022/23 tax year.
However, from 2024/25 a business will be taxed on its profits for the tax year, i.e. the profits from 6 April and the start of the tax year to 5 April at the end of the tax year. Where accounts are prepared to 31 March (or to a date between 1 and 4 April), the accounting period is deemed to correspond to the tax year. If the accounts are prepared to a different date, it will be necessary to apportion the profits from two accounting periods to arrive at the profits for the tax year. For example, if accounts are prepared to 30 June each year, the profit for 2024/25 will comprise 3/12th of the profits for the year to 30 June 2024 and 9/12th of the profit for the year to 30 June 2025. This will mean that the business will need the accounts for the year to 30 June 2025 in order to finalise their tax liability for 2024/25. Under the current year basis they only need the accounts to 30 June 2024.
To move from the current year basis to the tax year basis, the tax year 2023/24 is a transitional year. In this year, the profits for the year ending in 2023/24 are taxed, together with any profits for the period from the end of that period to 5 April 2024. If there are any overlap profits to be relieved, these will be deducted. This may result in more than 12 months’ profits being taxed in 2023/24. However, spreading relief will tax the additional profits over a five year period, unless the business elects otherwise.
Move to a 31 March year end?
Going forward, life will be simpler if the business prepares accounts to 31 March (or to 5 April). Where the accounting date is other than 31 March, it may be beneficial to change to a 31 March accounting date ahead of the move to the tax year basis. This could be done in 2022/23 or in the 2023/24 transitional year.
Where the move is made in 2022/23, the normal rules on change of accounting date apply. The first accounts to the new date must not be for a period longer than 18 months and the change must be made for commercial reasons. Notice of the change of accounting date must be given in the self-assessment tax return. Depending on how the dates work, any unrelieved overlap profit may be relieved or overlap profits may arise. Any overlap profits created on a change of accounting date will be relieved in the 2023/24 transitional year.
Alternatively, the move to a 31 March accounting date could be made in the transitional year (2023/24). Making the change in this year would avoid the creation of overlap profits and provide access to spreading relief.
If a change of accounting date is not made prior to 2024/25, it is possible to change the accounting date once the tax year basis is up and running. This will have minimal consequences and remove the need to apportion profits from two periods to arrive at the profits for the tax year.
'Phoenix companies' - distribution treated as income
In a private limited company, it is usual for a director to also be a shareholder. Payments made to shareholders are deemed to be income distributions and taxed accordingly. However, payments made to shareholders where the company is being liquidated can be taxed as capital distributions under the Capital Gains Tax (CGT) rules being a disposal of an interest in shares. Broadly, the treatment of distribution as capital is only available on the closure of the company if the total amount paid to all shareholders is less than £25,000. This will be the case so long as the company has been liquidated for genuine commercial reasons (e.g. cessation of the business or following the sale of the trade and assets to another entity under substantially different control), particularly where the liquidation is not motivated for tax reasons.
A capital distribution will be subject to the potentially more beneficial CGT rates of 10% or 20%, depending on the level of other income and availability of any tax reliefs.
Pre-2016, this CGT treatment led to increase use of tax-driven 'phoenix' arrangements whereby a company is liquidated, shareholders withdraw profits receiving a capital distribution (often enabling a claim to CGT Business Asset Disposal Relief (BADR) relief reducing the tax rate to 10%) and then the shareholder sets up another company in a similar field, and the process is repeated.
The Targeted Anti Avoidance Rules (TAAR) counter this practice and tax the distribution as income rather than a capital gain should all of these four conditions apply:
Condition A: the shareholder holds at least 5% of the shares in the company immediately before the liquidation;
Condition B: the company was a close company at some point during the two years ending with the liquidation;
Condition C: the individual receiving the distribution continues to carry on, or be involved with, the same or similar trade or activity as that of the distributing company at any time within two years of the distribution
Condition D: it is reasonable to assume that the main purpose (or one of the main purposes) of the winding up was the avoidance or reduction of income tax.
The onus is on the taxpayer to interpret the rules and decide whether the TAAR rules apply in their particular situation. Conditions A and B should be relatively straightforward but conditions C and D may make the situation harder to define. Under Condition C the terms 'same or similar'; 'carry on', 'involved with' are not defined in the legislation but it should be noted that the conditions extend beyond the traditional 'phoenixing', and can include where the trade is carried on personally, by a connected party, or through a partnership or company. Condition D is subjective, requiring the purpose behind the winding up to be considered.
Many taxpayers may unwittingly fall into a trap unaware of the tax implications. Although it is up to the company's owner to interpret the rules, should HMRC issue an enquiry the onus would be on HMRC to prove that the company was liquidated to avoid income tax. Some situations will be relatively straightforward e.g. if the business owner has no intention of working and retires after the company has been liquidated, then condition C will not apply. On the other hand, a business owner who after one year following liquidation contacts some of his old clients and starts in business perhaps only in a small scale way as a sole trader, may find themselves caught by condition C.
If an enquiry is undertaken and HMRC is successful in their contention, they will review the capital distributions in the liquidation, and re-tax at the higher income tax distribution rates.
‘Roll over’ – asset not brought into the business immediately
There is usually a capital gains tax (CGT) charge when a chargeable asset is sold at a gain (subject to the individual personal allowance for an individual). However deferment of the gain may be possible should 'rollover relief' be available.
'Rollover' relief can be claimed where trading assets are sold and new assets purchased within a set timeframe using the proceeds (or the equivalent amount of proceeds if the asset is given away). The relief can be claimed by both individuals and companies and allows CGT to be deferred on the sale of a business asset when replacing it with another business asset within a period commencing one year before and ending three years after disposal.
Under this relief the allowable cost of acquisition and any other expenditure of the new asset is reduced by the amount of gain on the old asset. Therefore when the new asset is eventually sold two sets of capital gains will come into charge.
Relief can be claimed where the business is:
• trading, which includes carrying on a business of Furnished Holiday Let;
• occupying and managing commercial woodlands to make a profit;
• carrying on a profession, vocation, office or employment;
• making a personally owned asset available to a personal company; and
• disposing of land by a compulsory purchase.
The assets do not have to be of the same type but must be used, and only used, for the trade.
There is no requirement to invest the actual sale proceeds into the asset purchased so long as an amount equal to the disposal proceeds is used. However, if only part of the sale proceeds is used, the unused part is chargeable immediately (although Business Asset Disposal Relief may be available subject to the relevant conditions).
Provisional claims - HMRC may allow provisional relief where the original asset has been sold and the trader plans to reinvest the proceeds in a new asset but has not yet done so. When the reinvestment finally takes place the actual claim replaces the provisional claim. However, should the reinvestment not take place within three years from 31 January following the tax year of disposal the provisional relief will be cancelled (i.e. provisional relief will automatically cease after 31 January 2027 for a disposal in 2022/23).
Asset not used in business - If the asset is acquired but not taken into the business within the timescale, a claim may still be possible providing:
• the expenditure is incurred for the purpose to enhance the asset's value
• any work arising from such expenditure begins as soon as possible after acquisition and is completed within a reasonable time.
• on completion of the work the asset is taken into use in the trade and no other purpose
• the asset is not let or used for any non-trading purpose in the period between acquisition and the time it is taken into the trade
Should the original asset only be used in the business for part of the time of ownership the acquisition and proceeds are apportioned into business and non-business use on a timeline basis. Therefore only the part relating to the time used in the business can qualify for relief. For these purposes the period of ownership excludes any period pre 31 March 1982.
Time scale - The time limit for a claim is four years from the end of the accounting period to which the claim is related for companies and from the end of the tax year for individuals.
'Rollover' relief is not available where replacement assets are acquired to make a profit on sale. A similar relief, known as 'holdover relief', is available where the replacement asset is a depreciating asset.
Is paying AMAP still a good idea?
Where an employee uses their own vehicle for business journeys, their employer can cover the associated costs by paying a mileage allowance. As long as the allowance does not exceed that payable at the approved rate, payment of the allowance is tax-free. Employers can instead reimburse the employee’s actual costs associated with using their own vehicle for business. However, as this is difficult and time consuming, paying approved allowances should be an easy win, were it not for rising fuel prices.
The approved mileage rates have not been increased since April 2012, yet fuel prices are now considerably higher than they were 10 years ago. Given the current climate of rapidly rising fuel prices, is paying mileage allowances at the approved rates still a good idea?
Approved mileage allowance payments - Under the approved mileage allowance payments system (AMAPs), employers can pay mileage allowances to employees tax-free as long as the amount paid does not exceed the ‘approved amount’.
The approved amount is simply the number of business miles in the tax year multiplied by the approved rate. For cars and vans, this is set at 45p per mile for the first 10,000 business miles in the tax year and at 25p per mile for any subsequent business miles. For motor bikes, the rate is 24p per mile.
As long as the amount paid is not more than the approved amount, it can be paid tax-free. However, if it exceeds the approved amount, the excess is taxable. If instead the amount paid is less than the approved amount, the employee can claim tax relief for the shortfall.
A similar system applies for National Insurance. However, as National Insurance is not worked out cumulatively, the 45p per mile rates applies to all business mileage undertaken in the employee’s own car or van.
Impact of fuel prices increases - The approved mileage rates have not increased since April 2012, when petrol was around £1.42 per litre. At the time of writing (in June 2022), it was around £1.85 and rising. In the 10 years since the last increase in the approved rates, fuel prices have increased by more than 30%.
The approved rates are supposed to cover all costs associated with using a personal car for business, including running costs, insurance and depreciation. In a climate of rising costs, it is now doubtful whether they do.
The employer can instead make payments based on the actual costs tax-free. However, the associated record keeping is likely to prove prohibitive. Alternatively, they can agree higher bespoke rates based on actual costs with HMRC, but again the level of work involved is unlikely to make this a popular option.
Employers who wish to make a more accurate reimbursement of employee’s costs can pay above the approved mileage rates, but this will trigger a tax liability for the employer. Where the amount also exceeds the approved amount for National Insurance, Class 1 National Insurance contributions are payable by the employer and employee, and must be processed through the payroll.
The employee can claim a deduction for any difference between the amount paid and the actual costs incurred; however, as these are tricky and time consuming to work out, most employees will simply not bother and take the hit.
The solution is really for HMRC to increase the approved rates to reflect current prices so that they do what the system is supposed to do.
Distributions on cessation of a company
Companies cease for various reasons, some closing for the personal reasons of their directors or shareholders, rather than being forced to close by creditors. Many companies will have accumulated monies or assets that need to be distributed to shareholders on cessation (after all creditors' liabilities have been settled). The method of distribution needs careful planning to ensure that the minimum amount of tax is paid.
When a company ceases trading it can either:
Whichever route is taken, dividends may already have been made to the fullest extent possible from accumulated profits but there may still be capital to distribute. ‘Striking off’ is not a formal winding up procedure, and as such any distribution of surplus assets (including the repayment of its share capital represented by those assets) is legally an income distribution. However, treatment of a distribution can be as capital where the company's total assets are less than £25,000. Such a distribution is subject to CGT, taxed at either 10% or 20% depending upon the shareholder's total income but after deducting the shareholder's annual allowance and offset of any capital losses.
If a company has applied to be ‘struck off’ but within two years of making a distribution the company has still not been dissolved, or has failed to collect all its debts or pay all of its creditors, then the distribution is automatically treated as a dividend.
If the £25,000 limit is exceeded, the whole distribution is treated as a dividend with no reliefs being available, making the extraction of the final shareholders’ funds expensive, depending on the shareholders' tax situation. In addition, where the distribution is of assets other than cash, the valuation of those assets could assume significance in determining whether the £25,000 threshold is breached.
Any company needing to make a distribution above £25,000 or where the shareholders would prefer the CGT to income tax treatment, will effectively be forced down the formal liquidation route with the additional costs that will be incurred (usually approximately £1,500 - £2,000 for a small company in straightforward circumstances). Apart from the more beneficial CGT rates, Business Asset Disposal Relief may be available if the relevant conditions apply. BATR reduces the rate of CGT to 10% rather than 20% where the shareholder is taxed at higher rates.
Once a liquidator is appointed, all distributions made during the winding up process are normally treated as capital subject to CGT which could produce a tax planning situation. For example, if the company has a mixture of cash and goods, the liquidator could be asked to release the cash first. If this could be planned to be at the end of the tax year then the annual exemption for that year can be used. The annual exemption for the next year can be used against any gain when the assets are sold.
Should the shareholder be a basic rate taxpayer, consideration may be given to extracting the excess over £25,000 as a dividend chargeable to income tax before cessation, leaving an amount equal to £25,000 to be extracted as capital. However, should the company then apply for dissolution, HMRC could argue that the intention was always to apply to strike off the company for tax reasons, and tax the whole amount as income. Intent is likely to be inferred should the company dispose of any remaining assets, leaving only cash before the application.
Conditions and problems - the claim for Incorporation relief
Businesses become companies for a variety of reasons. Not so long ago it was mainly as a tax planning tool but increasingly the differences in tax rates between the self-employed and a company mean that unless the profit is in excess of approximately £50,000 the increased administration involved with a company may not make it worthwhile to incorporate purely for tax savings.
Where the decision has been made to incorporate, the transfer is subject to Capital Gains Tax (CGT) as it involves the disposal by the sole trader or partnership owner of chargeable business assets to the company (e.g. goodwill, land/buildings). However, the charge can be deferred using Incorporation Relief (IR). To take advantage of this relief the business must be transferred as a going concern, all the assets must be transferred (apart from cash) and consideration for the transfer must consist wholly (or partly) of shares in the company issued to the sole trader. Ownership of any land or buildings is transferred into the name of the company (something that might not be possible should the property be subject to a mortgage and therefore a remortgage may have to take place).
The disposal is usually treated as taking place at ‘market value’ on the basis that the parties are ‘connected persons’. ‘Market value’ is the amount that the property might reasonably expect to fetch if placed on the open market. A company is 'connected' to another person is if that person has control of the company or if persons connected with them have control. As a 'connected person' the disposal is at 'market value' even if there is no monetary consideration.
Under an IR claim the CGT charge is postponed ('rolled over') until the person transferring the business disposes of their company shares. The 'rolled over' gain is then deducted from the cost of the shares such that the gain on sale comprises the amount of gain 'rolled over' and the gain made on the increase (if any) of the final sale price over the market value at the time of incorporation. If part of the consideration for the transfer is in cash, then the amount of gain 'rolled over' is reduced proportionately.
Importantly the relief applies automatically if the conditions are met, although an election can be made to disapply. A claim may not be possible because not all of the business assets are to be transferred, for example or because the exchange for shares means that the value can only be withdrawn by the sale of those shares and, being a private limited company, the market for those shares will be restricted. IR may also wish to be disapplied should the gain be covered by the annual exemption or there are losses brought forward available to offset.
One area that could result in an IR claim being refused is where the sole trader or partnership has a loan intended to also to be transferred to the company. Legislation requires that IR only applies to the extent that the consideration is shares but the taking-on or settlement of a debt is strictly consideration for the transfer. Although HMRC has no problem with this by concession (ESC D32), difficulties could arise with the lender where the loan moves from private client into corporate hands, with different borrowing criteria. If the company were to take out a loan and used that to repay the owner’s personal loan, such consideration is not covered by ESC D32 and the IR would be restricted. In practice, the lender and borrower agree to new refinancing terms on the understanding that the loan will be taken over by the company shortly thereafter. The owner uses the advance to repay their existing debt, enabling the loan to fall within the concession, such that IR is then fully available.
Practical Point - If it is intended not to transfer some assets, other CGT reliefs should be considered e.g. Business Asset Disposal Relief or Gift Relief. If another relief is preferred, either incorporation relief must be disapplied or ensure that the requirements for incorporation relief are broken.
Filing 2021/22 expenses and benefits returns
Employers who provided their employees with taxable expenses and benefits in 2021/22 need to report these to HMRC by 6 July 2022, unless they have been payrolled or included within a PAYE Settlement Agreement.
Taxable expenses and benefits should be reported to HMRC on form P11D. A P11D is needed for each employee for whom benefits and expenses need to be notified to HMRC. A P11D(b) is also needed. This is the employer’s declaration that all required P11Ds have been filed, and also the Class 1A National Insurance return. A P11D(b) must be filed even if all benefits have been payrolled as payrolled benefits must be taken into account when working out the Class 1A National Insurance liability.
Employers can file their P11Ds and P11D(b) returns electronically or in paper format. HMRC encourage electronic filing and for most employers this will be the preferred option. However, the electronic filing options are reduced this year as HMRC have decommissioned their Online End of Year Expenses and Benefits Service and consequently it cannot be used to file 2021/22 returns. However, employers can instead use HMRC’s PAYE Online Service, or file using commercial software package.
HMRC’s PAYE Online service can be used by employers to undertake a number of tasks, such as accessing tax codes and notices about employees, checking what they owe HMRC, paying bills, checking their payment history and appealing a penalty. It can also be used to file expenses and benefits returns. However, it can only be used to file returns for up to 500 employees. Employers who need to make more than 500 submissions will need to file using a commercial software package.
To use the PAYE Online service to file expenses and benefits returns, employers must be registered to use the service and will need to log on via their Government Gateway account. Employers who are not yet registered and who wish to use the service to file their 2021/22 expenses and benefits returns should allow sufficient time to register and submit their returns by the 6 July 2022 deadline.
HMRC stress that the service should be straightforward to use; however, employers who encounter problems can either use the help function or contact HMRC’s Online Services Helpdesk, via the webchat facility or by phone on 0300 200 3600.
Commercial software packages
Employers can also file online via their expenses and benefits software package. Where they need to make more than 500 submissions, they must use a commercial software package to file online. Employers needing assistance should contact their software provider.
It is not mandatory to file P11Ds and the P11D(b) online; paper returns can still be filed. However, this is only likely to be an option for employers who only have a few returns to file.
Nothing to file this year?
Employers who have no returns to file this year but who have been sent a P11D(b) of a notification to one file will need to make a nil declaration online on the Gov.uk website. This is important as a penalty may be charged otherwise.
Relief for pre-trading expenses
When you start a business, you will need to incur costs before you are able to start trading. Did you know that you are able to claim tax relief for these?
Relief is available for unincorporated businesses for income tax purposes and also for companies for corporation tax purposes.
Typically, you may need to incur expenses securing business premises and kitting them out, on buying stock, on recruiting staff, on setting up a website, on IT and on marketing the business.
In the same way that relief is given for business expenses incurred once the business is up and running, relief is also available for those incurred before the business commenced.
The relief - The general rule is that relief is available for business expenses that are incurred wholly and exclusively for the purposes of the business. Relief is available for revenue expenses regardless of whether the cash basis or the accruals basis is used. However, the way in which the relief is given for capital expenditure depends on the way in which the accounts are prepared – where the cash basis is used, capital expenditure can be deducted in accordance with the cash basis capital expenditure rules. Otherwise, relief may be available in the form of capital allowances.
The pre-trading relief rules allow relief for expenses that were incurred in the seven years prior to the commencement of the trade to the extent that the expenses would have been deductible had the expenditure been incurred once the business was up and running. Pre-trading expenses are treated as if they were incurred on the day on the first day of trading, and are deducted in computing the profits for the first period of account.
No deduction is given for the cost of stock under the pre-trading expenses rules. Stock purchased prior to commencement will form opening stock, and relief against profits will be given for stock sold in the first accounting period.
Where the expenditure is capital in nature and qualifies for capital allowances, allowances are given as if the expenditure was incurred on the first day of trading.
Case Study - Tilly opens a tea shop and starts trading on 1 May 2022. She operates as an unincorporated business.
In the nine months prior to opening the business, she incurs the following expenses:
rent -- £1,000;
staff costs -- £2,000;
stock -- £4,000;
travel expenses -- £850;
advertising -- £3,000
website -- £1,200
shop fittings -- £12,000
laptop -- £500.
Under the pre-trading rules, the rent, staff costs, travel expenses, website, and advertising costs are treated as if they were incurred on 1 May 2022. They are deducted in calculating her profits for her first accounting period.
If she prepares her accounts under the cash basis, she can also claim a deduction for the laptop. If the accruals basis is used, she can claim capital allowances (including the annual investment allowance): the expenditure is treated as incurred on 1 May 2022.
Relief for the cost of the stock is given in the first accounting period.
Furnished holiday lettings and interest costs
For tax purposes, furnished holiday lettings are something of a special case and benefit from a number of advantages not available to standard residential lets. One of these advantages is in relation to the treatment of interest and finance costs.
Residential landlord – Restriction of relief
Residential landlords can now only obtain relief for interest and finance costs, such as mortgage interest, as a basic rate tax reduction, regardless of the rate at which the residential landlord pays tax. The interest and finance costs are not deducted when working out the taxable profit, and the tax is initially worked out on the profit without taking account of the interest and finance costs. The resulting tax liability is then reduced by 20% of the interest and finance costs, capped at the lower of 20% of the taxable profit or the amount that reduces the tax liability to nil. Any unrelieved interest and finance costs can be carried forward for relief as an income tax deduction in calculating the tax liability of the same property business in a later tax year, with the costs being relieved at the first available opportunity.
This approach has a number of downsides – relief is only given at 20% even if the landlord is a higher or additional rate taxpayer and relief may not be given in full in the tax year in which the costs are incurred.
Furnished holidays lettings – Deduction in full
The changes to interest rate relief do not apply to furnished holiday lettings, and where a let qualifies as furnished holiday let, interest and finance costs can be deducted in full when working out the taxable profit. The deduction is not capped, and can give rise to a loss which may be carried forward and set against future profits from the same furnished holiday business. Also, as relief is by deduction, relief is given at the landlord’s marginal rate of tax not at 20% where the landlord is a higher or additional rate taxpayer.
Toby is a residential landlord. For 2021/22 his taxable profit before taking account of interest costs on the associated mortgage is £30,000. Mortgage interest paid in the year is £8,000.
Toby has other income from his photography business and pays tax at the higher rate of 40%.
Before applying the basic rate tax reduction, the tax on the property income is £12,000 (£30,000 @ 40%). The basic rate tax reduction in respect of the mortgage interest reduces this by £1,600 (£8,000 @ 20%) to £10,400.
Tom has a furnished holiday let on which profit before deduction of interest costs is also £30,000. He too pays mortgage interest of £8,000 and, like Toby, has other income and is a higher rate taxpayer.
However, unlike Toby, he can deduct the full amount of the mortgage interest, reducing the taxable profit to £22,000, on which tax of £8,800 (£22,000 @ 40%) is payable.
Despite identical profit and interest, Tom pays £1,600 less in tax than Toby as he is able to obtain relief for his interest costs at his marginal rate of 40%.
Plan capital expenditure to benefit from reliefs
Unincorporated businesses and companies planning capital expenditure projects need to be aware of some time-limited reliefs. Timing capital expenditure to benefit from these reliefs can be financially beneficial.
Annual investment allowance - The annual investment allowance (AIA) is available to both unincorporated business and to companies. It provides immediate 100% relief against profits for qualifying capital expenditure on plant and machinery in the accounting period in which the expenditure is incurred up to the available AIA limit. The limit remains at its temporary limit of £1 million until 31 March 2023, reverting to its permanent level of £200,000 from 1 April 2023.
Most items of plant and machinery qualify for the AIA; the exception being expenditure on cars.
Where the accounting period is 12 months in length and falls wholly within the period from 1 January 2019 to 31 March 2023, the AIA limit for the period is £1 million.
Where the period spans 31 March 2023, the AIA limit for the period is:
x/12 x £1 million + y/12 x £200,000,
where x is the number of months in the period prior to 1 April 2023 and y is the number of months in that period on or after that date.
Consequently, the AIA limit for the year to 30 September 2023 is £600,000 (6/12 x £1 million + 6/12 x £200,000).
However, not all expenditure in a period spanning 31 March 2023 is equal. Where the expenditure is incurred before 1 April 2023, qualifying expenditure up to the limit for the period will be eligible for the AIA. However, a further cap applies if the expenditure is incurred in the period but after 31 March 2023. This is y/12 x £200,000. Only expenditure up to this cap qualifies for the AIA. Relief for expenditure in excess of that qualifying for the AIA is given as writing down allowances.
So, if a business prepares accounts for the year to 30 September 2023, its AIA limit for the year is £600,000. It can claim the AIA for expenditure of up to £600,000 if the expenditure is incurred before 1 April 2023. However, if it incurs the expenditure after 1 April 2023, only £100,000 qualifies for the AIA, whereas, if the business accelerates the expenditure to incur it on or before 30 September 2022 (so that it falls within the year to 30 September 2022), it can benefit from the AIA for expenditure of up to £1 million.
Where significant capital projects are planned, undertaking them sooner rather than later will mean maximum advantage can be taken of the temporary AIA limit.
Super deduction for companies - Companies can also benefit from a super-deduction of 130% of the expenditure when calculating profits. This is available in respect of qualifying expenditure on plant and machinery which would otherwise be eligible for main rate writing down allowance, subject to certain exceptions, the main one being expenditure on cars.
To qualify, the expenditure must be incurred in the period from 1 April 2021 to 31 March 2023.
The super-deduction is only available to companies; unincorporated businesses do not qualify. Where available, the deduction rate trumps that under the AIA. However, the expenditure must be incurred by 31 March 2023 to qualify.
50% first-year allowance - Companies can also benefit from a 50% first-year allowance for qualifying expenditure (excluding cars) that would otherwise benefit from special rate writing down allowances. This allowance can be useful if the AIA limit has been used up. Again, the expenditure must be incurred by 31 March 2023.
Making use of the property income allowance
The property income allowance allows you to earn a small amount of rental income tax-free each year. It is useful where the rent-a-room scheme does not apply (which is limited to the letting of furnished accommodation in your own home), and removes the need to report small amounts of rental income to HMRC.
The property allowance is set at £1,000 per tax year.
Rental income of less than £1,000
Where the rental income received in the tax year is less than £1,000, the income is not charged to tax (unless you elect otherwise). The income does not need to be reported to HMRC and can simply be ignored for tax purposes.
Ceri lives near a popular concert venue and lets out a parking space on her drive. She earns rental income for the tax year of £640. As this is less than the property allowance, it is not charged to income tax and she does not need to report it to HMRC.
Rental income of more than £1,000
Where rental income exceeds £1,000, you can choose how you want to be taxed. You can deduct either your actual expenses or the £1,000 allowance from your rental income to arrive at your taxable profit.
If you decide to deduct the allowance, you must elect for this treatment to apply; otherwise you should deduct actual expenses when calculating your profit. You can choose which gives the best result.
David is an artist and sometimes lets out space in his studio to other artists. In the tax year in question, he receives rental income from letting the studio of £2,000. His actual expenses are £500.
Calculating his profit in the usual way by deducting expenses would result in a taxable profit of £1,500. However, if he elects instead to deduct the property allowance, his taxable profit is reduced to £1,000. In this case an election is worthwhile.
Where the allowance is deducted, it is deducted from the total receipts for the property rental business, rather than on a property-by-property basis.
However, if actual expenses exceed your rental receipts, it is better not to claim the allowance and preserve the loss, which you can carry forward to set against future profits.
Splitting the allowance
If you have more than one relevant property business and want to claim the allowance, you can choose how it is split between your different property rental businesses.
Use simplified expenses to save work
A lot of time and paperwork can be saved by claiming expenses using the simplified rates, rather than recording and deducting actual costs. However, if the deduction is considerably higher using actual costs, the additional time investment may be worthwhile. Given current high cost of fuel, where mileage is high, a deduction based on actual costs may be preferable.
Use of the simplified rates is optional and is available to sole traders and partnerships that do not have any corporate partners.
Businesses can claim a fixed rate per business mile deduction for the vehicle expenses. The fixed rate deduction covers the cost of buying, running and maintaining the vehicle (including the cost of fuel, oil, servicing, repairs, insurance, VED and MOT). The fixed rates per mile are as follows:
Once a business elects to use the flat rates, they must continue to do so while the vehicle remains in the business. Capital allowances cannot be claimed where the simplified rates are used and if capital allowances have been claimed in respect of the vehicle in question, it is not possible to use the flat rates.
Use of home
It is also possible to claim a fixed rate deduction for the use of home for the purposes of the business. The flat rate provides an allowance for additional household running incurred as a result, and covers the additional costs of cleaning, heat, light, power, telephone, broadband etc.
The deduction is based on the total number of business hours spent working in the home on core business activities in the month and is as follows:
Core business activities are providing goods or services, maintaining business records, marketing and obtaining new business.
Betty is a dog groomer. She provides a mobile service and also works from home. In 2022/23 she spent 60 hours a month working in her home on core business activities and she drove 15,000 business miles.
To save the work involved in determining the actual additional costs, she claims flat rate deductions in respect of the use of her car and her business use of home.
For the car she claims a deduction of £5,750 being 10,000 miles at 45p per mile (£4,500) plus 5,000 miles at 25p per mile (£1,250).
For use of her home she claims a deduction of £18 per month – an annual deduction of £216.
Claiming fixed rate deductions saves the time and effort of keeping records of actual costs and calculating the deductible amount.
Reclaiming VAT on cars, personalised plates & clothing
The First-tier Tribunal (FTT) recently considered a firm’s VAT claim for the purchase of two cars, a personalised number plate and clothing. Its ruling neatly sums up the conditions that must be met for such claims to be successful. What was the outcome? - Mr B and Mrs M Firth’s (BF and MF) business traded as Church Farm (CF). It reclaimed the VAT paid on two new cars, a personalised number plate and for clothing intended for use by MF in a new trade. HMRC rejected the first two claims and reduced the latter by 50% to account for personal use. Following an unsuccessful HMRC review, CF appealed to the First-tier Tribunal (FTT).
The cars - Before the hearing CF’s accountant told MF that reclaiming VAT was not permitted except for cars used mainly as taxis and similar trades, or where the intention is to use the car exclusively for business. CF relied on the latter reason to justify its claim. The FTT rightly identified the correct test for reclaiming VAT is the intended use at the time of purchase. Whether there is actually non-business use is not relevant, other than as a possible indicator of the original intention.
Intended use - HMRC trotted out its usual argument that insurance policies that cover “social, domestic and pleasure” (SDP) use indicate an intention for non-business use. CF’s counter argument was that the SDP clause was included in the policies by default (this is generally true) and referred HMRC to policies it had for a digger and a paver. Obviously, there was never an intention to use either for SDP purposes and so the SDP clauses proved nothing. To further its argument CF later had the policies for the cars amended to exclude SDP use. While HMRC’s SDP-clause argument isn’t solid proof of intended use, some judges find it persuasive. To counter this argument, for cars you intend to use solely for business ask your insurer to issue a policy without the SDP clause.
FTT’s decision - The FTT ruled in favour of HMRC. This might seem harsh but we suspect the real reason for FTT’s decision was not the SDP issue but simply that CF’s claim that the cars (an Audi TT and Audi Q8) were intended exclusively for business use (solely for visiting customers etc.) was not believable in the context of its trades (subcontracting glamping, weddings and events). The ruling includes details of the conditions HMRC expects to see in support of a claim relating to VAT and cars.
The number plate and clothing claims - VAT on the cost a personalised number plate can be reclaimed if the number is clearly identifiable with and promotes awareness of a business. However, the FTT decided that “BS70BEN”, while referencing BF’s name, didn’t meet these requirements and so none of the VAT was reclaimable.
The clothing was sportswear to be worn by MF in running Pilates classes. HMRC accepted there would be business use but that the clothing was not sufficiently specialised, i.e. it was neither protective gear nor a uniform, to permit 100% of the VAT to be reclaimed. It would accept a claim for 50% of the VAT as an arbitrary estimate of business use. As there was no evidence to support a greater claim the FTT agreed with HMRC.
The FTT said that unless a car was for use as a taxi etc. VAT can only be reclaimed if the “intended” use was wholly business. This was not proved by the claimant and so the ruling went in favour of HMRC. The FTT also decided that there was no business motive for the personalised number plate and refused that claim too
Corporation tax increases soon to take effect
Corporation tax is being reformed and companies with profits of more than £50,000 will pay corporation tax at a higher rate than they do now. While the changes do not come into effect for a year, applying from the financial year 2023 which starts on 1 April 2023, their impact will be felt sooner where accounting periods span 1 April 2023. Consequently, they will be relevant to accounting periods of 12 months starting after 1 April 2022.
Nature of the changes - From 1 April 2023, the rate of corporation tax that you pay will depend on the level of your profits and the number of associated companies that you have if any.
If your profits are below the lower limit, from 1 April 2023, you will pay corporation tax at the small profits rate. At 19%, this is the same as the current rate of corporation tax.
If your profits are above the lower limit, you will pay corporation tax at the main rate. This has been set at 25% for the financial year 2023.
If your profits fall between the lower limit and the upper limit, you will pay corporation tax at the main rate, but you will receive marginal relief which will reduce the amount that you pay. Marginal relief is calculated in accordance with the following formula:
F x (U-A) x N/A
F is the marginal relief fraction (set at 3/200 for the financial year 2023);
U is the upper limit;
A is the amount of augmented profits (profits plus dividends from non-group companies); and
N is the amount of total taxable profits.
Where a company benefits from marginal relief, the effective rate of corporation tax will be between 19% and 25%. A company with profits nearer the lower limit will receive more marginal relief than a company with profits nearer the upper limit and pay tax at a lower rate.
The lower limit is £50,000 and the upper limit is £250,000 for a company with no associated companies. Where a company has one or more associated companies, the limits are divided by the number of associated companies plus 1, so that, for example, the lower limit for a company with one associated company will be £25,000 and the upper limit will be £125,000.
The limits are time apportioned where the accounting period (or pro rata period) is less than 12 months.
Plan ahead - Where the accounting period spans 1 April 2023 the profits for the period are apportioned and those relating to the period prior to 1 April 2023 will be taxed at the financial year 2022 corporation tax rate of 19%, while those relating to the period from 1 April 2023 to the end of the accounting period are taxed at the relevant rate for the financial year 2023 depending on the company’s profits.
Where the company will from April 2023 pay corporation tax at a rate above 19%, now is the time to plan ahead and, where possible, accelerate profits so that they fall in the current accounting period rather than one spanning 1 April 2023. On the other side of the coin, delaying costs so that they fall in a period spanning 1 April 2023 rather than the current period will also reduce the tax that is payable at a rate above 19%.
Example - ABC limit prepares accounts to 30 September each year. It has annual profits of £300,000.
Its profits for the year to 30 September 2022 will be taxed at 19%.
However, its profits for the year to 30 September 2023 will be time apportioned and six months’ worth will be taxed at 19% and the remaining six months’ worth at 25% -- an effective rate of 22%.
The company accelerates a profitable contract so that it is completed before 30 September 2023 so that the profit is taxed at 19%.
The role of the Adjudicators Office
Few taxpayers are aware that the Adjudicators' Office (AO) exists. The AO was set up in 1993 to provide an independent free-to-use complaints procedure when all avenues of complaint regarding HMRC and the Valuation Office (VO) have been exhausted. Its primary purpose is to review how HMRC and the VO have handled matters, but it can also consider whether HMRC has appropriately used its discretionary powers to, for example, write off penalties or tax bills. Their role is very specific and they can only rule where the following have occurred:
HMRC has a set process when dealing with complaints. Before reaching the AO the complainant must first have contacted HMRC or VOto confirm that a formal complaint is being made. This can be done either by completing an online form at https://www.gov.uk/government/organisations/hm-revenue-customs/contact/complain-about-hmrc or by telephoning a particular number (0300 200 3300) and requesting a first review (Tier 1). Tier 1 is the first attempt to resolve the complaint, aiming initially to resolve as many complaints as possible. If a customer is not satisfied with the response outcome at Tier 1, they can ask for the complaint to be reassessed, at which point it then becomes a Tier 2 complaint’. A Tier 2 complaint is HMRC’s final review and will be conducted by a different complaint handler to ensure a fresh review is undertaken. Approximately 7% of complaints are escalated to this level. There is no discretion in the process about whether a complaint should be escalated to the next stage or not. If a taxpayer wishes to escalate, it is their right to do so. If the customer is still dissatisfied after HMRC’s final review at Tier 2, then the case can be transferred to the AO so long as it is within six months of HMRC's Tier 2 review.
This ‘two stop’ policy invariably means that a complaint is settled before being elevated to the AO department. As such, the number of cases handled by the AO is relatively small when comparing the number of taxpayers in the UK. The 'Adjudicators Office 2022 report' states that during the past year 2020/21 they received 1029 complaints upholding 32%.
The AO does not reconsider cases because the customer disagrees with the decision. If the complainant is still unsatisfied after the Adjudicator’s review, it is possible to finally escalate a complaint to the Parliamentary and Health Service Ombudsman, who can only deal with complaints referred by an MP.
The impact of the Adjudicators' Office - The role of the AO is not just to act as 'judge and jury'. Where the AO has had most success is in persuading HMRC to reconsider their working practices in specific areas leading to the re-education of HMRC's staff. Where the Adjudicator thinks they have fallen short, they will recommend what needs to be done to make matters right.
Compensation - Should a case reach the AO they have powers to award compensation if they deem a claimant has lost out financially or suffered anxiety or distress due to HMRC's error or delay. Reimbursement of costs may include postage, telephone costs and professional fees. For professional fees, the fees must have been invoiced and paid. Payments for worry or distress may be applicable if someone has suffered particularly from the consequences of a mistake. However, such payments are typically modest and usually under £100. Payments for badly handled complaints can also be made. Compensation is not awarded in the vast majority of cases and when it is, the amount is small. In 2020/21 compensation amounted to a total of £33,682.
Uncover extra tax relief on your travel expenses
Your firm’s policy is to pay the HMRC-approved mileage rates to staff who use their own vehicles for business journeys. However, HMRC’s definition of business mileage can mean that an additional tax deduction can be claimed. When might this apply?
As you probably know, employees can receive a mileage allowance for using their personal vehicle for business travel tax and NI free, if the amount is no more than HMRC’s approved mileage rates (AMRs) (see The next step ). A well publicised situation where an employee is entitled to additional tax relief is where the mileage allowance received is less than the AMR.
Example. Chris’s workplace is his firm’s HQ but once or twice a week on average he has to travel to customers, suppliers, attend conferences, etc. His firm pays him a mileage allowance of 40p per mile (the AMR for Chris’s journeys is 45p) as Chris uses his own car for these journeys. Last tax year he travelled 3,000 miles and received a mileage allowance of £1,200. The AMR amount for 3,000 miles is £1,350, therefore Chris can claim a £150 tax deduction for the difference.
A less obvious and often overlooked scenario where further tax relief is due occurs where the amount of mileage qualifying for AMR is greater than that which an employer pays. This typically occurs where the starting or end point of a business journey is not an employee’s normal place of work, e.g. their home. Consider Chris from our example. He often starts or ends his journey from home rather than his firm’s HQ. When this happens Chris’s firm pays him the AMR for the number of miles between his normal workplace (HQ) and the customer etc. but not for the additional miles he racks up because his journey starts or ends at home.
Example. Chris commutes to work in his car as usual but has an appointment late in the afternoon to visit a customer located nine miles away from his normal workplace. The visit ends after Chris’s normal working hours and so he drives directly home instead of returning to his office. His journey home is 36 miles. His firm pays him the AMR for 18 miles, i.e. the mileage between the office and back. However, the good news for Chris is that HMRC’s rules allow him to claim a tax deduction for the whole of his journey between the customer and his home. That’s another 18 miles at 45p per mile (£8 in total). Not much by itself, but as Chris makes 40 such journeys a year the extra AMRs add up to £320. The position would be similar if Chris had to meet the customer early in the day which required him to start his journey from home, or if it started and ended at home. Chris can claim the extra tax relief he overlooked for the current year and the previous four.
The extra mileage qualifies for a tax deduction at the AMRs. As a rule of thumb, extra tax relief is due for where the mileage covered on a business journey is greater than the employee’s normal commute and they have not received an AMR payment for the extra miles.
Genuine business journeys
To qualify for AMR payments the travel must be necessary so that an employee can carry out the duties of their job. Inserting a stop-off which doesn’t have a material and genuine business purpose in what would otherwise be an employee’s normal commute can’t turn it into a qualifying journey. HMRC’s Guidance Notice 490 has some helpful examples (see The next step ).
If a business journey necessarily starts or ends (or both) at home and the mileage covered exceeds that for which the employee receives a mileage payment from their employer, they can claim a tax deduction (at HMRC’s approved rates) for the difference.
Interest on buy-to-lets - how much tax relief can you claim?
Working out the tax relief that you’re entitled to for interest you pay on your buy-to-let-related loans isn’t simple. How is it calculated and why is it so important to keep track of it?
No tax deduction - For 2020/21 and later tax years landlords of residential properties aren’t entitled to a tax deduction for interest and other finance costs used for their rental businesses. Instead they receive a 20% tax credit. Calculating this can be far from straightforward; the following examples illustrate the basic principles and some of the wrinkles to watch out for.
Tax credit for finance cost - Example 1. Sangita has been a landlord for several years. She makes a profit each year and has no losses or unused finance costs from earlier years. In 2022/23 her rental income is £20,000 and her tax-deductible expenses, £7,000. She also paid interest on two loans used to purchase and improve her let properties on which she paid interest of £14,000 in 2022/23. As a higher rate taxpayer she owes tax of £5,200 on her £13,000 net rental profits. She is also entitled to a tax credit for the loan interest equal to the lesser of 20% of:
In this example the second calculation applies. Sangita has not used the tax credit in respect of £1,000 of the loan interest. She can carry forward the unused finance costs to the following year and make the same calculation to work out how much tax credit she’s entitled to for that year.
Losses and unused finance costs - The position gets trickier when the rental business makes a loss.
Example 2 - part 1. In 2021/22 Alice began a property letting business. The rental income for the year was £4,800 (the property was vacant for some months between tenants) less expenses of £6,000 and mortgage interest of £7,000. She can deduct the £6,000 expenses but none of the mortgage interest to arrive at a loss of £1,200. This can be used against later rental profits. The unused interest of £7,000 can also be carried forward as explained earlier.
It’s important to keep a record of losses and unused finance costs separate from each other. These figures are needed for your self-assessment return if you complete one. The record is even more important if you don’t complete annual self-assessment returns.
Example 2 - part 2. In 2022/23 Alice received rent of £11,000. Her expenses are £3,000, plus mortgage interest of £9,500. Alice’s rental income profit is therefore £8,000 but this is then reduced to £6,800 by the £1,200 loss brought forward before the tax credit for interest is worked out. For this example we’ve assumed it is 20% of the rental profit of £6,800. This means Alice can carry forward unused finance cost to the next tax year of £9,700 (£7,000 brought forward plus £2,700 unused for 2022/23 (£9,500 - £6,800)).
Record keeping. The figures can soon get messy and keeping a tight rein on them is important and will become more so when Making Tax Digital begins for landlords in April 2024.
Tax relief for interest is allowed as a basic rate tax credit equal to the lower of three limits. If, for any year, not all the interest can be used this way it’s carried forward to use for later years. This record of unused interest must be kept separate from that for rental business losses as both figures are required for self-assessment
Tax-free savings income
There are various ways to enjoy savings income tax-free. However, not all routes are open to all taxpayers – the options depend on the nature of the savings and the saver’s other earnings and marginal rate of tax.
Basic and higher rate taxpayers are entitled to a savings allowance. The allowance is set at £1,000 for basic rate taxpayers and at £500 for higher rate taxpayers. The allowance is available in addition to the personal allowance and also the dividend allowance. Taxpayers who pay tax at the additional rate (which applies to taxable income in excess of £150,000) do not benefit from a personal savings allowance and must pay tax on any savings income unless it is otherwise exempt.
There is no need for a separate savings allowance for savers who total income is less than their personal allowance as the personal allowance will shelter any savings income.
Savings starting rate
Savings income which falls within the savings starting rate band is taxed at the savings starting rate of 0%. Depending on the individual’s personal circumstances, they may be able to enjoy up to £5,000 of savings income tax-free.
The savings starting rate band is set at £5,000, but is reduced by any taxable non-savings income. This is other taxable income in excess of the personal allowance (but excluding any dividends which are treated as the top slice of income). Consequently, the full £5,000 savings starting rate band is available where other taxable income is less than the individual’s personal allowance. The standard personal allowance is £12,570 for 2022/23. The savings starting rate is eroded once taxable income in excess of the personal allowance reaches £5,000.
The savings starting rate is applied before the personal savings allowance.
If savings are held within a tax-free wrapper such as an Individual Savings Account, the associated savings income is tax-free.
Marion has a state pension of £11,000 a year. She has considerable savings which generate interest of £9,000 a year. She also receives interest of £200 a year from savings held in an ISA.
As her total income of £11,000 is less than her personal allowance of £12,570, the remainder of her personal allowance is available to shelter the first £1,570 of her savings allowance.
Her pension (her only other taxable income) does not exceed her personal allowance; consequently, she is entitled to the full £5,000 savings starting rate band. Savings falling within this band are tax-free (attracting the savings starting rate of 0%).
She is also able to benefit from the personal savings allowance, which is £1,000 because she is a basic rate taxpayer. The remaining interest (other than that from her ISA) of £1,430 (£9,000 - £1,570 - £5,000 - £1,000) is taxed at the basic rate of 20%. The interest of £200 from her ISA is tax-free.
Loans to directors – beware of the higher section 455 charge
Directors and shareholders in close companies are often able to influence the payments that are made to them. Broadly, a close company is one that is controlled by five or fewer shareholders. Personal companies and most family companies are close.
In a close company, there are often numerous transactions between the director and the company – the company may, for example, make payments to the director, loan money to the director and may also make payments on the director’s behalf. On the other side of the coin, the director may loan money to the company, repay loans or make payments on the company’s behalf. The director’s loan account provides the means for keeping track of the transactions between the director and the company. However, tax consequences arise if the director’s loan account is overdrawn at the end of the accounting period or if a loan has been made which has not been repaid.
Loan repaid by corporation tax due date - The corporation tax for an accounting period is due for payment nine months and one day after the end of the accounting period. If the loan is repaid in this period (or the overdrawn balance cleared), there are no further tax consequences. However, the loan must be reported on the company’s corporation tax return. Depending on the amount of the loan, there may also be a benefit in kind tax charge for the director, and a Class 1A National Insurance liability on the company. This will be the case if the amount owed by the director to the company exceeds £10,000 at any point in the tax year.
An overdrawn account can be cleared in various ways, for example, by paying money into the company from personal resources, crediting a bonus or salary payment to the account or by declaring a dividend. It should be borne in mind that there will be tax and National Insurance contributions to pay on a salary or bonus payment and tax to pay on a dividend.
Loan remains outstanding - If the loan has not been repaid and the director’s account remains overdrawn at the corporation tax due date, the company must pay tax on the overdrawn balance. This rate of this tax (Section 455 tax) is linked to the dividend upper rate. Consequently, it was increased to 33.75% from 6 April 2022 in line with the increase in the dividend upper rate applicable from the same date. The increase in the rate means that it is now more expensive for a company to loan money to a director. The rate of Section 455 tax was 32.5% prior to 6 April 2022 (and 25% prior to 6 April 2016).
Where a Section 455 tax charge arises it must be paid with the corporation tax for the accounting period, nine months and one day after the end of the accounting period. Crucially, it is not corporation tax, and also unlike corporation tax it is a temporary tax that is repaid if the loan balance is cleared. The tax becomes repayable nine months and one day after the end of the accounting period in which the loan is repaid. It is usually set against the corporation tax for the period, or repaid to the company if there is no corporation tax to pay. The repayment of the section 455 tax must be claimed – it is not made automatically.
Planning considerations - Personal and family companies will need to budget for the higher Section 455 charge when making loans to directors (or to other participators) that will not be repaid by the corporation tax due date.
When deciding whether to clear the loan, the whole picture needs to be considered. It is only worth paying a dividend or bonus to clear the loan if the tax consequences of doing so are less than paying the section 455 tax, for example, if a dividend would be sheltered by the dividend allowance or taxable at the dividend lower rate. Otherwise, it is better to leave the loan outstanding and pay the tax. If the director has several loans made over different period, it makes sense to clear those made on or after 6 April 2022 first.
Using the capital gains tax land and buildings toolkit
HMRC produce a number of toolkits which highlight common errors found in self-assessment tax returns. As the name suggests, the capital gains tax land and buildings toolkit highlights key errors commonly found by HMRC in relation to capital gains tax on land and buildings. The latest version of the toolkit relates to 2021/22 tax returns, to be submitted by 31 January 2023.
Key areas of risk
The toolkit highlights the following key areas of risk.
1. Record keeping -- good record keeping is essential as poor records may mean that the information provided on the tax return is not accurate, and this may result in incorrect deductions for expenditure, with amounts over or under-stated. In addition, poor record keeping may mean that allowable expenses are overlooked and reliefs are not claimed. The nature of capital gains tax means that past events (such as the incidental costs of acquisition) are relevant and records need to be kept until the property is disposed of so that any gain can be computed correctly.
2. Disposals – disposal are not limited to the sale of the land or building and a disposal will occur for capital gains tax purposes where a property or land is given away or exchanged, and this may trigger a capital gains tax liability. There may also be a disposal for capital gains tax purposes if an asset is lost or destroyed or if a capital sum is received in respect of the asset. All disposals should be taken into account in the return, and care should be taken to include the disposal in the correct tax year.
3. Valuations – the valuation of land and buildings comprises the largest single area of risk and accounts for a large part of HMRC compliance work. Problems are more likely to arise where the valuation is not performed by a qualified independent valuer. In valuing land or buildings, errors may arise where the potential for development, the existence of tenancies, the inclusion of intangibles or other assets or the existence of restrictive covenants over the land are overlooked. HMRC are less likely to challenge a valuation where they are happy that it has been undertake by a qualified independent valuer.
4. Expenditure – certain expenditure is allowed as a deduction in computing the chargeable gain, including acquisition costs, enhancement expenditure and the incidental costs of disposal. Expenditure is only allowed as a deduction if it is capital in nature and has not been deducted elsewhere (for example in calculating rental profit). Care must be taken that expenditure that is deducted in computing the gain meets these tests.
5. Reliefs – various reliefs are available for capital gains tax purposes (such as private residence relief). However, reliefs are only available if the associated conditions are met. Some reliefs require documentary evidence. Care should be taken to ensure that the conditions are met where reliefs are claimed.
The toolkit also contains a useful checklist. This can be used as an aide-memoir and it is advisable that it is completed when completing the tax return to ensure nothing is overlooked. This may prove to be time well spent.