from A newsletter for proactive planning... In this edition... Dividend planning What expenses can you deduct? Mileage allowance payments – The maximum tax-free amount VAT bad debt relief National Insurance and the self-employed 10 Questions with ... Will November 2022 Issue www.compassaccountants.co.uk
PAGE 2 The Chancellor’s recent mini-Budget and subsequent U turns threw a number of spanners into the works as far as profit extraction strategies are concerned. Initial revisions to profit extraction strategies in the light of the miniBudget announcements now need to be revised. Rates For 2022/23, the dividend allowance is £2,000. Where dividends are not sheltered by the dividend allowance or any unused personal allowance, they are taxed at the dividend ordinary rate of 8.75% where they fall in the basic rate band, at the dividend upper rate of 33.75% where they fall in the higher rate band and at 39.35% where they fall in the additional rate band. The rates were increased from 6 April 2022 by 1.25% as part of a package of measures to raise funds for health and adult social care with the introduction of a dedicated Health and Social Care Levy. The Health and Social Care Levy has since been scrapped. It was announced at the time of the mini-Budget that the increase would be reversed from 6 April 2022. However, new Chancellor Jeremy Hunt subsequently announced that this will now not happen, and dividend tax rates will remain at their 2022/23 levels. The basic rate of income tax was due to fall from 6 April 2023 from 20% to 19%. This cut has now been delayed and the basic rate will remain at 20%. Extracting profits If profits from a personal or family company are to be used for personal use, they need to be extracted from the company. There are various ways in which this can be done, but from a tax perspective, the goal is to do so in a way that minimises the total tax and National Insurance payable. A popular tax efficient strategy is to take a small salary and to extract further profits as dividends. The optimal salary depends on whether the National Insurance employment allowance is available. If it is, as may be the case for a family company, the optimal salary for 2022/23 (assuming the personal allowance has not been used elsewhere) is equal to the personal allowance of £12,570. Personal companies where the sole employee is also a director do not benefit from the employment allowance. Where the employment allowance is not available, the optimal salary for 2022/23 is equal to the annual primary National Insurance threshold of £11,908. The changes announced in the mini-Budget and the subsequent U-turns do not change the optimal salary for 2022/23. CONT ON PG 3
PAGE 3 Taking dividends Once the optimal salary has been paid, it is more tax efficient to take any further profits needed outside the company as dividends. Dividends are paid from post-tax profits and have already suffered corporation tax of 19%. The reinstatement of the proposed corporation tax reforms will mean that the funds from which dividends have paid may have suffered a rate of tax of more than 19% from 1 April 2023. This will be the case where profits exceed the lower profits limit, set at £50,000 for a stand-alone company. For 2022/23, dividends should still be extracted (assuming sufficient retained profits are available) to use up the dividend allowance and any remaining personal allowance of the director and, in a family company scenario, any family members who are shareholders. Once the allowances have been used up, taking any further dividends will trigger a tax liability on those dividends. If the funds are not needed outside the company, it may be preferable not to pay a dividend to avoid the associated tax charge, perhaps delaying the payment of the dividend until it can be sheltered by a future year’s dividend or personal allowance. Where further dividends are needed, the aim is to pay as little tax as possible. In a family company scenario, this may mean using the basic rate band of family members before paying dividends to the director where they would be taxable at a higher rate. As dividends must be paid in proportion to shareholdings, the tailoring of dividends to achieve this is only possible with an alphabet share structure whereby each family member has their own class of shares. What expenses can you deduct? To ensure that a business does not pay more income tax than it needs to, it is important that a deduction is claimed for all allowable expenses. The rules on what constitutes deductible expenditure can be confusing. They also depend on whether the accounts are prepared on the cash basis or the accruals basis. However, there are some basic rules which must be met. Wholly and exclusively rule The basic rule is that a deduction is allowed for expenses incurred wholly and exclusively for the purpose of the trade. The rule works by prohibiting expenses that are not wholly and exclusively incurred, stating: ‘In calculating the profits of a trade, no deduction is allowed for – (a) expenses not incurred wholly and exclusively for the purposes of the trade…’ There is no requirement that the expense is necessarily incurred. Consequently, you can deduct an expense if it is incurred wholly and exclusively for the purposes of your business and the deduction is not otherwise prohibited (as for certain entertaining expenses and depreciation). CONT ON PG 4
PAGE 4 No deduction for private expenditure Only business expenses meeting the wholly and exclusively test can be deducted – a deduction for private expenditure is not permitted. If you operate as a sole trader, it may be easy for the boundary between business expenses and personal expenses to become blurred. For example, you may pick up some items for your home at the same time as some cleaning products for the business and pay for them together. In this situation, it would be easy to inadvertently claim a deduction for the whole amount. If the business items can be separately identified, a deduction can be claimed for these. To prevent errors, it is advisable to keep good records and keep business and personal expenditure seperate. Ideally, there should be a separate business bank account which is used for business expenses. Mixed expenses If an expense has a business and a private element and these cannot be separated, a deduction is not allowed. An example would be normal clothes worn for work. However, the cost of a uniform featuring the business logo can be deducted. Capital expenditure The rules governing the deductibility of capital expenditure can be tricky and depend on the basis used to prepare the accounts. If the traditional accruals basis is used, capital expenditure cannot be deducted in calculating profits. Instead, relief is given through the capital allowances system. Where the annual investment allowance is available, as long as the £1 million limit has not been used up, qualifying capital expenditure can be deducted in full (as a capital allowance) in the year in which it is incurred. Different rules apply under the cash basis, and capital expenditure can be deducted unless it is of a type for which a deduction is specifically denied. The main items of capital expenditure which are not deductible under the cash basis are land and buildings and cars. Capital allowance may be available instead for cars (as long as simplified expenses have not been claimed). Common deductible expenses While the list of deductible expenses will vary from business to business depending on the nature of the business, the following is a list of common deductible expenses: ·cost of goods sold; ·packaging; ·distribution costs; ·staff costs (wages and salaries, pensions); ·premises costs (rent, insurance, light and heat, cleaning, repairs); ·office costs (stationery, phone costs, printing, postage); ·advertising; ·finance costs (but note an interest cap applies under the cash basis); and ·accountancy and legal costs. Check the list to ensure deductible items have not been overlooked. CONT ON PG 5
PAGE 5 Mileage allowance payments – the maximum taxfree amount To save work, employers can pay employees a mileage allowance if they use their own car for business journeys. The Government have recently cleared up confusion as to what can be paid tax-free, confirming the maximum taxfree amount. Mileage allowance payments The approved mileage allowance payments system is a simplified system that allows employers to pay tax-free mileage allowance payments to employees who use their cars for business travel. Under the system, payments can be made tax-free up to the ‘approved amount’. A similar, but not identical, system applies for National Insurance purposes. The approved amount The approved amount for tax is calculated for the tax year as a whole and is simply the reimbursed business mileage for the tax year multiplied by the tax-free mileage rates for the type of vehicle used by the employee. Rates are set for cars and vans, motorcycles and cycles and are as shown in the table below. They have been unchanged since 2011/12. Kind of vehicle Rate per mile Car or Van 45 pence per mile for first 10,000 business miles 25 pence per mile for subsequent business miles Motor cycle Cycle 24 pence per mile 20 pence per mile Example Mo uses his own car for business and drives 12,350 miles in the tax year. The approved amount is £5,087.50 (10,000 miles @ 45p per mile + 2,350 miles @ 25p per mile). Any payments made in excess of the approved amount are taxable and must be reported to HMRC on the employee’s P11D. If, on the other hand, the employer does not pay a mileage allowance or pays less than the approved amount, the employee can claim a deduction for the difference between the approved amount and the amount actually paid, if any. Confusion Earlier in the year, a petition went before Parliament calling for an increase in the advisory rate from 45 pence per CONT ON PG 5
PAGE 6 mile to 60 pence per mile to reflect the increases in fuel prices since 2011. Parliament rejected the petition stating that the rates remained adequate as they covered all running costs and the fuel element was only a small part. However, in their response, they pointed out that employers could pay higher amounts tax-free where this represented the amount of actual expenditure and could be substantiated: ‘The AMAP rate is advisory. Organisations can choose to reimburse more than the advisory rate, without the recipient being liable for a tax charge, provided that evidence of expenditure is provided.’ The Government subsequently backtracked on this, stating in a written Parliamentary statement that: ‘The response [to the petition] stated that actual expenditure in relation to business mileage could be reimbursed free of Income Tax and National Insurance contributions. This is in fact only possible for volunteer drivers. Where an employer reimburses more than the AMAP rate, Income Tax and National Insurance are due on the difference. The AMAP rate exists to reduce the administrative burden on employers.’ Maximum tax-free amount The maximum amount that can therefore be paid taxfree to employees using their own car for work is the approved amount, regardless of the car that they drive or the actual costs incurred. However, if the employer wishes to pay more, car sharing could be encouraged and the employer could also pay passenger payments (of 5 pence per mile) for each colleague that the driver gives a lift to (providing the journey is also a business journey for them). For company car drivers, the maximum tax-free amount that can be paid is governed by the prevailing advisory fuel rates published by HMRC.
PAGE 7 VAT bad debt release If you are a VAT-registered business you must charge VAT when you make taxable supplies. You must also pay over the difference between VAT you have charged and the VAT that you have suffered to HMRC (or, where a scheme such as the flat rate scheme is used, the amount due to HMRC under the scheme rules). Assuming your customers pay their bills, it is the customer who provides the funds for the output tax which must be passed on to HMRC and from which you can recover any input tax that you have incurred. But what happens if the customer cannot or will not pay their bill? If you are not paid for supplies of goods or services that you have made to a customer on which you have charged VAT, you may be able to claim relief from VAT on the bad debts that you have incurred. Conversely, if you do not pay bills on which you have reclaimed input VAT, you may need to repay that VAT. Bad debts You can claim relief for VAT on bad debts if the following conditions are met. 1. You have already accounted for the VAT on the supplies and paid it to HMRC. 2. You have written off the bad debt in your day-today VAT account and transferred it to a separate bad debt account. 3. The value of the supply is not more than the customary selling price. 4. The debt has not been paid, sold or factored under a valid legal assignment. 5. The debt has remained unpaid for a period of 6 months from the later of the time that the payment was due and payable and the date that the supply was made. It should be noted that if you use the cash accounting scheme or a retail scheme that allows you to adjust your daily takings for opening and closing debtors, a claim for bad debt relief is unnecessary as VAT is only paid on amounts that you have actually received from your customers. You must wait at least 6 months from the later of the date on which the payment was due and payable and the date of the supply before making a claim. The claim must be made within 4 years and 6 months from that date. You can claim the relief in your VAT return, but the claim cannot be made in a return for a VAT accounting earlier than the one in which you become entitled to the relief. The need to wait 6 months before making the claim means that you will have to pay the VAT over to HMRC in the first instance (and meet the cost of this) before claiming it back. You must also notify your defaulting customer that you have made a claim for bad debt relief. Repaying input tax If you do not pay a supplier and you have reclaimed VAT on that supply, you must repay the input tax if the debt remains unpaid 6 months from the later of the date of the supply or date on which the payment was due. If you are given time to pay (for example, payment terms are 30 days), the clock starts from the date payment is due rather than the invoice date. To make the repayment, you should make a negative entry in your VAT return and account for the repayment in the return for the period in which the repayment became due.
PAGE 8 National Insurance and the self-employed During her leadership campaign, Prime Minister, Liz Truss, promised to reverse the National Insurance increases that took effect from 6 April 2022 pending the increase of the planned Health and Social Care Levy. Ahead of the mini-Budget, the Chancellor confirmed that the Health and Social Care Levy would be cancelled and that the associated National Insurance increases would be reversed from 6 November 2022. Self-employed taxpayers pay Class 2 and Class 4 National Insurance contributions. What do the changes mean for them? Class 2 Class 2 National Insurance contributions are flat-rate contributions payable by the self-employed where profits exceed the small profits limit, which for 2022/23 is £6,725. For 2022/23, Class 2 contributions are payable at the rate of £3.15 per week. At present, a liability arises once profits exceed the small profits limit. However, the National Insurance Contributions (Increase of Thresholds) Act 2022 makes provision for regulations to be made to align the starting point for Class 2 contributions with the threshold at which Class 4 contributions become payable (set at £11,908 for 2022/23). The Act also makes provision for regulations to be made providing for a self-employed earner with earnings below this threshold and at least equal to the small profits threshold to be treated as if they have paid Class 2 contributions for this year. This would allow a self-employed earner with profits between the small profits threshold and the new starting threshold to secure a qualifying year for zero contribution cost, as is currently the case for employed earners with low earnings. The regulations can be made with retrospective effect, but this cannot be earlier than 6 April 2022. Thus, the first year this can apply is 2022/23. At the time of writing the regulations had yet to be made. However, there is still time – Class 2 contributions for 2022/23 do not have to be paid until 31 January 2024. Self-employed earners with profits below the small profits threshold can pay Class 2 contributions voluntarily to build up entitlement to the state pension. This is a cheaper option than paying Class 3 voluntary contributions. Class 4 The self-employed also pay Class 4 National Insurance contributions on their profits once they exceed the lower profits limit. For 2022/23 this is set at £11,908. Contributions are payable at the main Class 4 rate on profits between the lower profits limit and the upper profits limit (£50,270 for 2022/23) and at the additional Class 4 rate on profits in excess of the upper profits limit. The rate of Class 4 contributions was increased by 1.25% from 6 April 2022 pending the introduction of the now cancelled Health and Social Care Levy. As a result, the main rate for 2022/23 was initially set at 10.25% and the additional rate set at 3.25%. However, the rate increase was reversed from 6 November 2022, and as a result the Class 4 rates applying for 2022/23 were revised. The main Class 4 rate for 2022/23 is now 9.73% and the additional rate is now 2.73%. Self-employed earners were due to pay the Health and Social Care Levy from 6 April 2023 at the rate of 1.25% on earnings on which a Class 4 liability was due. However, the levy has now been cancelled. Consequently, for 2023/24, self-employed earners will remain liable to Class 4 and Class 2 contributions where profits exceed the relevant thresholds. For 2023/24, the main Class 4 rate is 9% and the additional Class 4 rate is 2%.
PAGE 9 10 Questions with ... Will Will Glanville has joined the Compass Accountants team as an Apprentice- Here we ask him the Compass 10 Questions .. 1. What is the first thing you would buy if you won the lottery? I’d buy a new car 2. How did you get into accounting? I always enjoyed my business lessons at school, I wanted to find a job where I can interact and build relationships with clients, so I feel this role is tailor made for me! 3. What is your favourite film? David Brent: Life on the road 4.What was your first ever job? Bar tender at Goodwood Hotel 5. If you could invite anyone (dead or alive) to your dinner party who would you invite? Gary Neville 6. What do you like most about working for Compass Accountants? All the staff are really welcoming and friendly. Everyone looks out for each other,they all offer their support whenever you need it and have made me feel very welcome. 7.Which superpower would you most like to have and why? To go invisible. You can come and go as you please! 8.What is your favourite place in the world that you have been? New York 9.What did you want to be when you were growing up? Footballer 10.Tell us one strange or unique fact about yourself! I’ve pulled Rowan Atkinson a pint!
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