Capital allowances and depreciation

Often there’s little logic in tax law!

If you ever look closely at your accounts and tax return (you do look closely, don’t you?) you may notice that they include depreciation and/or capital allowances. And you may notice that the bottom line figure for depreciation and/or capital allowances is usually different.

That’s because depreciation is calculated based on established accounting practices, and capital allowances are based on the rules set out in the Taxes Acts. And no matter which method you are following, these rules only apply to the major items in your business, the things that last for several years. That means things like motor vehicles, furniture and significant computers.

Generally speaking, accountants will take the cost of a capital asset (like your new £5,000 super computer) and spread the cost equally over 5 years. Whether or not that truly reflects the depreciation of this item the accounts will show a depreciation figure of precisely £1,000 in each and every one of the consecutive 5 years.

HM Revenue and Customs do things differently. So at the outset, they ignore the depreciation figure in the accounts and treat the accounts as if that amount wasn’t there. They term this “adding back the depreciation”. And then they take off the capital allowances.

Ordinarily, capital allowances are calculated on an 18% reducing balance system. There are a few other special rules (as you might have guessed), but for now we’ll take that £5,000 super computer and write off 18% of it. That gives you a capital allowance in year 1 of £900 and a balance of £4,100. In year 2, the 18% allowance on £4,100 will be £738 and so on.

Under the capital allowances method, you never quite get down to NIL . With depreciation you know that the annual adjustment is a uniform figure, and that you’re going to hit a value of NIL after 5 years.

Smaller items of equipment can be written off when they are bought, as a revenue expense rather than a capital expense. You may not see these capitalised in your accounts, and hence you may have no figures for depreciation or capital allowances. These smaller assets are in your profit and loss account under “equipment expensed”.

If you ever wanted to compare the capital allowances figures to the depreciation figures, you would need to do a reconciliation every year, starting with year one of the business. The records should be there in all the copies of the accounts and the tax returns.

Why bother with depreciation then, if HMRC uses capital allowances? The bigger your business gets, the more important your balance sheet becomes. And the biggest companies want the balance sheet to truly reflect the net worth of the company, and so they need show exactly how the assets depreciate and what their residual value is.

A fixed asset register

Claiming tax relief on the big things

All businesses can claim tax relief on business expenses. That can include items that you bought before the business started! Do you have a laptop, and any other IT kit? Is your office equipped with a desk, a chair and a book case? Here’s a typical list of things that you might be introducing. There may be things on this list that you should ignore, and there may be other special things (in your line of business) that we haven’t thought about.

All of these things are “the big things”, the sorts of things that will serve the business over a number of years, and not be used up all in one go. Use this list as a guide, and please compile your own. The descriptions under “model” and “serial number” should be sufficiently clear so that one Dell laptop can be distinguished from the next Dell laptop that you buy, if you see what we mean!

If you run a limited company you should avoid having a company car. Keep you car as a private asset. If you have a self employed trade and the car is a fundamental requirement, then include it in this list.

* make * * model * * serialno* * Date Acquired * * total cost *
Car 1
Car 2
Desktop 1
Desktop 2
Printer 1
Printer 2
Laptop 1
Laptop 2
Fax machine
Copier
Shredder
Scanner
Air con
Digital camera
Video camera
Desk 1
Chair 1
Filing cabinet 1
Book case 1
Desk 2
Chair 2
Filing cabinet 2
Book case 2
Other specialist equipment


Once your list has been prepared, please let us have a copy.

New company reference numbers

When a new company is incorporated, both Companies House and HMRC will issue reference numbers. This may take between 14 and 28 days. In order to submit documents electronically, we need to ask you to let us know the reference in each case.

HM Revenue & Customs call it a Unique Taxpayer Reference or a UTR. Companies House talks about an authentication code. Examples of the tax office form and the Companies House letter are shown below. In each case, please let us know the reference or the code. We don’t need the letter, just a simple email with the reference or the code, thanks.

Once we have the reference number from HMRC we will complete the form CT41G for you using our own electronic proforma. You do not need to do anything with the original paper form. File it in your system just in case you need the UTR later.

We will check that the Companies House authentication code works on their  web site, and then we’ll keep it safe pending the submission of various forms in future.

Claiming back expenses from your own Limited Company

You may be familiar with this process if you have ever been employed and had to submit an expense claim. As a director of your own limited company the process is the same, and it applies where directors and employees have used personal cash or a personal bank card to pay for a business cost.

It’s better to have all your suppliers invoice your company directly, and have the company pay them directly. If that could be done, you would never have to fill out a personal expense claim form.

Do not prepare employee expenses claims for items which the company has paid for directly from the company bank account or with the company credit card.

Keep the receipts for all of the things that you buy personally, on behalf of your business. Then once a month (or perhaps at some different interval) fill out a claim form and ask your company to reimburse you. If there is ever a records inspection by the tax office, they will want to see the claim forms with supporting receipts, and they will also check that the reimbursements on the company bank statements match the amounts claimed on the expense forms.

Motor expenses

Mileage on business journeys should be claimed at the HMRC approved rate. These have been the same since 6 Apr 2011.

• 45p per mile – first 10,000 miles per year
• 25p per mile – additional miles

No other motoring costs are to be claimed. The FPCS rates from HMRC are calculated by the AA so as to cover all the conceivable running costs of having a car! That means that you have to keep a log of all of your business journeys in your own car.

Foreign Currencies

Separate out any expense receipts which are in foreign currencies and prepare an individual claim form in each separate currency. That way the sub-totals do not end up with mixed currencies.

Non-VAT Registered Businesses

Use two forms, one form for mileage and just one form for all other business expenses. Separate the receipts by category and claim back the gross amount including VAT. Use the non-VAT form in the samples below, and just put all the figures on that.

VAT Registered Businesses

Separate your personal expense items according to whether they have VAT on them or not. VAT receipts for motor fuel belong in another separate pile. VAT on fuel can be reclaimed, but only to the extent that it is vouched for on actual VAT receipts.

Use three forms, one form for mileage and two separate forms covering expenses with VAT and expenses without VAT.  As a director/employee you are claiming back all of the gross amounts including all the VAT. The bookkeeper needs to know which items include VAT and which ones don’t. That’s why there are three different forms for a VAT registered business.

Book keeping and sample forms

If you are doing your own book keeping, use the totals in each column and post them into your software. Download these sample forms (MS Excel) if that helps:

• Mileage Claim
• Non-VAT Expenses
• VAT Expenses

Expenses in the first month or two

Normally a new business, will lead to cash expenses which you want to reclaim, before you have any funds to pay them. There are two ways to handle this dilemma.

• Wait until the business can afford to make the reimbursement.
• Introduce working capital (use a round sum) into the business, and then reimburse yourself!

Over the course of the financial year movements in capital introduced and capital withdrawn accumulate and may be shown in the annual accounts as a loan from the director to the company. Take care, because capital movements can sometimes work the other way. If you take too much capital out of the company, the loan is the other way around and there can be adverse tax consequences.

Recharging Costs to customers

Company’s do not claim from customers, they invoice.

Company’s are not reimbursed by customers, the customer pays the bill. Your company has a receipt in the bank account.

Reserve the expressions claim and reimburse for activities that occur between you (or your staff) and your company.

If your company recharges costs to a customer it is done on an invoice. The amounts recharged are usually liable to VAT. See the Disbursement or Expense report for more details of what may and may not be liable to VAT.

In a legal sense transactions between you and your company, and transactions between your company and your customers are entirely different obligations.

The terminology matters. This is one of the few situations where all accountants, bookkeepers and VAT officers need you to understand this concept fully.

Staff claim and staff are reimbursed.

Company’s do not claim from customers, they invoice.

Company’s are not reimbursed by customers, they have a receipt.

The mechanics of processing an expenses claim

It’s your business, and it’s up to you how you run it. We are just the accountants that do the bookkeeping, the VAT returns, the year end accounts and tax returns. We do not run your internal systems for you. Ordinarily we expect you and your staff to prepare your claims on a regular basis, not once per year, and definitely not one week before the Companies House accounts deadline. This is how we do it at Proactive, our staff can submit one claim per month, which is due in by the last day of the month and is then paid by the 14th of the following month. If they miss a month end deadline then they have to wait a further month for any claim to be accepted and reimbursed.

Your claims are subject to the approval of one of your internal staff who will scrutinise them with care. If approved, one of your internal staff will then implement a reimbursement, normally by bank transfer. Do not wait for the next VAT quarter to end, do not wait for Proactive to check things, it’s not our job to micro manage what you do. However, we do require copies of all personal expenses claims handled within your business. If our checks identify areas of concern we will discuss the problem and the remedies which are open to you.

Finally, if you are the only person in your business, you still have to follow this process. Imagine you are wearing two hats! And do this task with some rigour. Later, when your business is big and successful you will thank us for putting The Senior Manager Test on this web site.

Employed and self employed at the same time

Will I pay tax twice?

In this article self employment means just that. A person is self employed if they run their business for themselves and takes personal responsibility for its success or failure. A self employed person can also be sued, and risks losing everything they own.

Self employment does not mean running a limited company which offers freelance services and which has limited liability protection, for example “send in the bailiffs to seize this pen and this laptop, sell them at auction and see what you get”. In a legal sense a freelancer running a limited company is special type of employee.

So, if you’re both employed and self employed at the same time, this is what you need to know.  For tax purposes, all of your income in a single tax year is lumped together and the tax calculation is a single exercise. Nobody should have to pay tax twice.

However, with National Insurance Contributions, the system is peculiar and there is often a risk of paying too much.

Having said that, both the Revenue and the Contributions Agency have been know to make mistakes, lots of mistakes. So it’s worthwhile having an accountant check the position.

If you are one of those people who dips in and out of employment, and in and out of self employment, then it’s worthwhile keeping very close tabs on start dates and end dates with your different engagements, and records of all income and expenses. When you have a major project (and are working under PAYE) it does not mean that your self employment ceases. The best thing is to keep your status as self employed until such time as you know that there is not going to be any more self employed work.

That saves you from having to register and de-register as self employed on a regular basis. It also means that in lean times, any loss you make on the self employed business can be set against your PAYE income. So if you still spend money on prospecting, phone calls and advertising (in the course of your self employment) your losses can sometimes result in a repayment of PAYE taxes.

The 50% Payment on Account Dilemma

It’s normal for some people to make tax payments on account every 6 months

If you’re self employed, or have lots of income from rent, dividends or investments, you may have become used to the pattern of making tax payments every 6 months.

However, the way the rules are structured, it normally comes as a bit of a surprise the first time you encounter the the “payments on account” regime. PoA for short. If most of your tax is paid under PAYE you won’t need to worry about this. The rule is twofold:

  • If your PAYE tax deduction (and any sundry tax deduction) is more than 80% of your total tax bill, then PoA do not apply.
  • If your total tax payment for the year comes to less than £1,000 then PoA do not apply.

In all other cases, individuals (but not companies) will have to pay an instalment of tax every 6 months, on 31 January and on 31 July. And that normally applies to people who are self employed or have lots of income from rent, dividends or investments. The best way to explain this is to give you an illustration, based around the chart below. Let’s say that. . .

  • your taxable income first arose in the tax year 2015/16
  • your 50% payments on account are based on the previous year’s tax bill
  • as the previous year’s tax bill (2014/15) was NIL, you made no PoA on 31 Jan 16 and 31 Jul 16
  • when your tax return was finalised, your 2015/16 tax bill came to £999 and you paid that on the normal due date of 31 Jan 2017
  • that amount was below the £1,000 limit and so your PoA for 31 Jan 17 and 31 Jul 17 were also set at NIL
  • and then you go and have a really good year in 2016/17

  • so good, that your 2016/17 tax bill comes to £8,888
  • now you’re caught
  • not only do you have to pay the 8,888 on the normal due date of 31 Jan 2018, but the PoA kick in at the same time
  • the first instalment of 4,444 for 2017/18 is due on the same day – 31 Jan 2018 – in this illustration that’s going to lead to a single payment of £13,332
  • and another £4,444 is going to be due on 31 Jul 2018
  • if the payments on account of £4,444 and£ 4,444 are not precisely right for 2017/18 then a TBA adjustment is made on 31 Jan 2019
  • that could mean more tax to pay, or a tax repayment
  • and the next 50% instalment will also be due on 31 Jan 2019, and so on

It sometimes looks like you have to pay 2 years worth of tax in the space of 6 months. It has often been said that “if you’re self employed you don’t pay tax for two years”. That’s sort of true, but then it all catches up with you and you end up paying two years worth of tax in the space of 6 months.

We know what you’re thinking and we’ve heard the message before. You can contact your MP here (use the search labelled “Find an MP by postcode”). We simply have to follow the rules!

The only way to keep things under control is to regularly put aside a tax reserve and to do your accounts and tax return soon after 5 April every year. Then there should be no nasty surprises.

A Reduction?

What happens when you have a really good year followed by a really bad year? Your payments on account in the new year are automatically based on your tax bill for the old year, because HMRC (and the legislation) assumes that your taxable income will continue on a steady trajectory, going up.

When it goes down, you may struggle to pay high instalments. And you don’t have to.  There is a mechanism to apply for a reduction, and it’s called the SA303 process. Let us know if this is relevant to you.

Before the 31 January tax payment date we may be able to work with your figures for 9 months of the tax year (to 31 December) and make a reasonable judgement call on the picture for 12 months, and hence deduce what a reasonable instalment would look like. For relevant clients, we follow this routine in the first two weeks of January each year, and provide advice before the end of the month. It’s important though to ensure that we have 31 December figures just after December ends.

January is our busiest month of the year, in the run up to the 31 January tax payment date, and tax return submission deadline. We will do the best we can, and it’s a case of first come first served.

The knock on effect

If it turns out that the new instalments are too low, and that insufficient tax is going to be paid, then an additional tax bill, and late payment interest are inevitable. Therefore, when the January SA303 is prepared, a pragmatic approach is needed, and it would be unwise to “just ask for instalments of NIL”.

In any case, whether we over or under estimate, it’s usually a good idea to have the next tax return prepared soon after 6 April and before the second instalment is due on 31 July.

Income Tax & Corporation Tax Payments

There are four methods for paying a tax bill

We recommend making payments by bank transfer as this is the best way to prove that the amount was paid and was paid on that date!

Method 1 – Internet Banking

If HMRC sent you a payslip it will state whether you need to pay Shipley or Cumbernauld.

If you have no payslip then the default position is to make personal tax payments to Shipley and company tax payments to Cumbernauld. There are a lot of cases which do not follow this pattern, but don’t worry about it. HMRC sometimes moves cases around to even out the workload.

Depending on your bank, they may already have HMRC Shipley or HMRC Cumbernauld set up on their system. If the bank does not have the precise account details already, then you will need to specify one of these two:

account name HMRC Shipley
sort code 08-32-10
account no. 12001020
ref – your unique taxpayer reference number (the UTR)

account name HMRC Cumbernauld
sort code 08-32-10
account no. 12001039
ref – your unique taxpayer reference number (the UTR)

These bank accounts do not work with the modern “faster payments” system which we are all now used to. It normally takes at least 24 hours for a payment to arrive. Do not pay on the last possible date, it will not arrive until the next banking day and that will make your payment late!

If it’s a personal tax payment add a capital letter K to the end of your 10 digit UTR.

12345 67890 K

If it’s a company tax payment, the 10 digit UTR needs to be followed by the “accounting period”. Please try to follow this format as HMRC is prone to getting payments, putting them in the wrong place, and then claiming that they didn’t receive it in the first place! Replace the letters NN here with the numbers which we provide in our email.

12345 67890 A001 NN A

If your tax liability is more than £10,000 you may find that you will exceed your bank’s limit on internet transfers. Two smaller amounts paid on two separate days should enable you to work around that problem.

Method 2 – Traditional Cheque and Payslip

Companies are compelled to pay corporation tax electronically with effect from 1 April 2011. You can still use cheques to pay personal taxes.

If you have a recent reminder, payslip and prepaid envelope, please use that when making your payment. Write out a cheque for “H M Revenue & Customs” and put your unique taxpayer reference number on the front and on the back! Post it in good time so that it arrives by the due date! Thanks.

Method 3 – Debit Card

Use a debit card and pay by phone. Call the Collector of Taxes on 0845 305 1000 and quote your 10 digit unique taxpayer reference number. Then ask for a payment reference number or authorisation code for this payment.

Method 4 – Covering Letter and Cheque

Companies are compelled to pay corporation tax electronically with effect from 1 April 2011. You can still use cheques to pay other taxes.

If you cannot use any of the above methods, please use the dialogue below as the basis for a covering letter (using your normal business letter headed paper) and send it with a cheque, to the Collector. Write out a cheque for “H M Revenue & Customs” and put your unique taxpayer reference number on the front and on the back!

The Collector of Taxes
Accounts Office B
Shipley
W Yorkshire
BD98 8AADear SirsI enclose a cheque in the sum of AMOUNT which represents tax due on DATE for the period ended YEAREND, under your ref REFNO.

Yours faithfully

 

Issuing more shares

Diluting your shareholding?

There may be good reasons for issuing more shares in your UK limited company, but you may unwittingly be running the risk of a capital gains tax bill. Read on . . .

The typical situation is a small company headed by Fred Flintstone and Barney Rubble who each own 50 Ordinary shares. Fred and Barney then decide to admit Mr Stone as a third director to Dinosaur Ltd and want to give him a small share of the company. The aim is to split the shares in a 40:40:20 ratio. There are two ways to do this:

  • The simplest thing would be for Fred and Barney to sell or transfer 10 shares each.
  • Or, Dinosaur Ltd could issue a further 25 Ordinary shares from the unissued share capital.

In either case the desired ratio of 40:40:20 is achieved, and in either case a potential gain arises in the hands of Fred and Barney. This happens whether or not money (or other consideration) changes hands. The gain arises, because Fred and Barney have given up a chargeable asset. Whichever way you look at it, they have surrendered 10% each of Dinosaur Ltd to Mr Stone.

The capital gains tax calculation depends on many factors, particularly in the case of small, close companies (and you should take professional advice)! In it’s simplest form, look at it this way . . .

Let’s say that Dinosaur Ltd is worth £1M. That was the value of the company on the balance sheet when last year’s accounts were done. Let’s also assume that the year end was yesterday and that the accounts were completed this morning, and so that figure is a valid current market value. Let’s also assume that Mr Stone paid nothing for the shares and was given them only on account of his important status.

Fred put in £50 on day one of the company and has just given away shares which originally cost him just £10. Because Dinosaur Ltd is now worth £1M he has made a disposal to the value of £100,000. His capital gain is £99,990 and he has and annual exemption of (say) £9,990. That leaves £90,000 chargeable to tax at the prevailing rate.

  • In 2009/10 the CGT rate is 18%
  • So 90,000 x 18% = 16,200

Amazing isn’t it? Fred has to pay a tax bill of £16,200 even though he received nothing but Mr Stone’s important status in exchange for a 10% share of Dinosaur Ltd. Ditto Barney! There are narrow, specialised rules which may allow some form of tax relief from that gain. However, does this story have implications for any share transactions you are considering? If your proposed arrangement means that your percentage holding in a company is going to change then you should seek professional advice.

And even if your holding is going up, there are implications for (a) your next share transaction and for (b) whoever has a diluted share in the company as a result.

Statutory Maternity Pay

The rules on SMP are subject to change every year and this article sets out only the general principles. The timing of notifications and claims is critical. For a precise overview of the current rules and rates, please refer to the HMRC Guide.

Generally, in order to qualify for SMP an employee must have been with the employer for at least 26 weeks and have been paid a minimum level of salary during that time – that’s usually at the threshold for tax or NI, so it’s not particularly high.

The claim for SMP can only be prepared after a form MAT B1 is received, and the GP is not permitted to issue that until week 20 of a pregnancy.

An SMP claim to HMRC must be submitted no later than 6 weeks before the expected due date.

Do not wait for week 20, notify us as soon as you are aware of a pregnancy. There are planning opportunities that can only be implemented in the period spanning week 4 to week 16 of a pregnancy. Talk to us about this at the earliest opportunity.

Once an employer has a copy of the form MAT B1, and is satisfied that the conditions have been met, SMP can be paid. The full amounts of SMP and a degree of compensation can be recovered from the Government. Normally this is done by restricting the monthly PAYE remittance of all income tax and NI arising from the other employees. Where there are no other employees, then this recovery has to be made by a funding application to HMRC.

If you are a small employer and need the funding up front, we can complete the relevant claim for you, for a small fee. That’s normally £350 plus VAT. A separate fee may also be charged if week 4/16 planning can be implemented. The SMP compensation paid to an employer is usually enough to cover the professional fees charged by Proactive, and sometimes it’s much more.

Tax Returns and IR Marks

These days, both personal tax returns and corporation tax returns are generated by us using software which has been approved by HMRC. The process includes the creation of a unique IR Mark which is established by applying a formula to the data in the return. This means that every tax return has a totally unique IR Mark.

We ask clients to check tax returns carefully to ensure that all income has been declared and that all allowances have been claimed. When you are satisfied that the return is correct and complete, HM Revenue & Customs will accept authorisation electronically.

We are permitted to file electronic tax returns only when we are satisfied that the IR Mark on our digital file is the same as the one on the document that you have approved. If any amendment is required to a tax return, then a fresh document needs to be prepared and sent out again for approval. That’s because the IR Mark changes after even the most elementary revision.

The Self Assessment tax return deadline normally falls ten months after the tax year ended, and you need to ensure it is submitted by 31 Jan. Please remember that in law, the responsibility for filing a tax return on time and for paying tax lies with you the taxpayer.

There are automatic penalties for late tax returns, so we encourage clients to approve them as soon as possible. Once submitted, we can provide details of the electronic proof of receipt.