07a and 07b. income tax and CGT

Question 1

what is a direct tax?

Answer 1

imposed by reference to a taxpayer’s circumstances

• Income tax;
• CGT;
• Corporation tax

Question 2

what is an indirect tax?

Answer 2

imposed by reference to transactions

• VAT - chargeable by reference to the value of supplies of goods or services

Question 3

what is an income receipt?

Answer 3

Money received on a regular basis

Question 4

examples of an income receipt

Answer 4

• trading profits
• interest on savings
• rent payments received

Question 5

what is an capital receipt?

Answer 5

money received from one-off transactions

Question 6

examples of a capital receipt

Answer 6

• sale of a premises owned by the company

Question 7

what is income expenditure?

Answer 7

Money spent as part of day-to-day trading

Question 8

examples of income expenditure

Answer 8

• heating
• lighting
• rent paid out
• marketing
• stationery expenses
• staff wages
• general repairs
• insurance
• stock

Question 9

what is capital expenditure?

Answer 9

money spent on:
- one-off transactions; or
- enhancing a capital asset (other than routine maintenance)

Question 10

examples of capital expenditure

Question 11

why is it necessary to make the distinction between income expenditure and capital expenditure?

Answer 11

because certain
income expenditure can be deducted from income receipts

AND

certain capital expenditure can be deducted from capital receipts and sometimes income receipts

Question 12

income receipts -
(income expenditure)
= TRADING PROFITS

Answer 12

Question 13

when can capital expenditure be deducted from capital receipts?

Answer 13

capital expenditure can only be deducted from the proceeds realised when a capital asset is disposed of.

Question 14

when are capital allowances deducted?

Answer 14

when calculating trading profits (ie income)

Question 15

what is tax relief?

Answer 15

deductions from the tax bill

Question 16

what is the tax equivalent of depreciation in accounting?

Answer 16

capital allowances - spreading the cost of capital expenditure over a period of time

Question 17

who does the tax year apply to?

Answer 17

individuals - 6 apr-5 apr

Question 18

who does the financial year apply to?

Answer 18

companies - 1 apr-31 march

Question 19

how do individuals and businesses pay tax?

Answer 19

HMRC via the self-assessment system
(individuals: tax year; companies: financial year)

Question 20

how do companies pay tax?

Answer 20

corporation tax on:
- income profits
- chargeable gains

in each accounting period

Question 21

what is the tax year?

Answer 21

6 April to 5 April

Question 22

what is the financial year?

Answer 22

1 April to 31 March

Question 23

what does it mean when income tax is deducted at source?

Answer 23

when someone else accounts for income tax to HMRC on the recipient’s behalf

Question 24

what is an example of when income tax is deducted at source?

Answer 24

PAYE system, where an employer deducts income tax from an employee’s wage or salary, and accounts for it to HMRC (employee receives wage or salary net of income tax)

or

National Insurance Contributions (NICs) out of employment income

Question 25

what is the Annual exemption:

Answer 25

For CGT, a tax allowance for individuals only available on an annual basis

Question 26

what is the Annual investment allowance?

Answer 26

A special type of capital allowance

Question 27

what are tax reliefs?

Answer 27

Certain payments which reduce an individual taxpayer’s total income eg interest on certain loans and pension contributions.

Question 28

what is Business Asset Disposal Relief (BADR)?

Answer 28

A tax relief available to individuals in certain circumstances to reduce their chargeable gains. It was formally known as ‘Entrepreneurs’ Relief’ or ER.

Question 29

what is a Capital allowance?

Answer 29

Tax allowances (ie deductions) for capital expenditure available to businesses (whether run by individuals or companies).

Question 30

what is Capital gains tax (CGT)?

Answer 30

A tax paid by individuals on their taxable chargeable gains.

Question 31

what is Corporation tax?

Answer 31

A tax paid by companies on their taxable total profit (TTP).

Question 32

what is the Current year basis?

Answer 32

Income tax is charged on the current year basis.

ie. income earned in this current year (from 6 April 2023 to 5 April 2024) will be taxed in, and according to, the rates applicable to the tax year 2023/24

Question 33

what is Dividend income?

Answer 33

A band of tax-free dividend income available to individuals for income tax purposes (6 Apr 2024 to 5 Apr 2025=£500)

Question 34

what are Gross sums and net sums?

Answer 34

A gross sum is the total sum before tax is levied. A net sum is the amount left after tax has been paid/deducted.

Question 35

what is Income tax?

Answer 35

A tax paid by individuals on their taxable income.

Question 36

what is Indexation allowance?

Answer 36

A tax allowance (ie deduction) for indexation available to companies in calculating their chargeable (ie capital) gains. This allowance takes into account inflation based on the Retail Price Index (RPI), so that a company is not taxed on chargeable gains arising solely because of inflation. Indexation allowance was frozen on 31 December 2017 and cannot be claimed for any period commencing on or after 1 January 2018.

Question 37

what is Investors’ Relief (IR)?

Answer 37

A tax relief available to individuals in certain circumstances to reduce their chargeable gains.

Question 38

what is Net income?

Answer 38

Total Income less available tax relief.

Question 39

what is Non-savings income?

Answer 39

Income which is not savings or dividend income such as salary

Question 40

what is a Personal allowance?

Answer 40

A band of tax-free income for individuals

Question 41

what is a Personal savings allowance?

Answer 41

A band of savings income available for basic and higher rate taxpayers which is taxed at the savings nil rate

Question 42

what is Savings income?

Answer 42

Income from savings, such as interest

Question 43

what is taxable income?

Answer 43

Net income less the personal allowance

Question 44

what is Total income?

Answer 44

A taxpayer’s gross income from all sources before any deductions

Question 45

what is the Taxable total profit (TTP)?

Answer 45

Taxable total profits, chargeable to corporation tax. The total of a company’s taxable income profits and chargeable gains.

Question 46

what is VAT?

Answer 46

A tax collected by registered businesses chargeable on supplies of goods and services.

Question 47

on or before what date is income tax payable?

Answer 47

on or before 31 January following the tax year in which the disposal occurs

Question 48

summary of income tax calculation

Answer 48

Question 49

what are the two main chargeable disposals?

Answer 49

• The sale of an asset; and
• The gift of an asset during the taxpayer’s lifetime.

Question 50

what is a free uplift on death?

Answer 50

there is *no chargeable disposal on death - the PRs are deemed to acquire the estate at its then market value

Question 51

what is a chargeable asset?

Answer 51

All forms of property, except when they are specifically excluded

Question 52

what is excluded from chargeable assets?

Answer 52

1. principal private residence
2. cars for private use (incl. vintage cars)
3. certain investments
4. UK sterling and foreign currency held for your own or your family’s personal use.

Question 53

what is a principal private residence (PPR)?

Answer 53

an individual can claim the benefit of this exemption from CGT if they have occupied the PPR as their only or main residence during the whole period of
ownership, though the individual also has a valuable exemption in respect of the last 18 months of ownership even if they were not in actual occupation. In cases where an individual owns
more than one home it is a question of fact as to which of the residences is the PPR. A married couple can only have one PPR between them: they cannot each have a different principal place of residence (unless separated)

Question 54

which certain investments are exempt as a chargeable assets?

Answer 54

includes:
- government securities
- National Savings certificates
- shares and securities held in Individual Savings Accounts (ISAs)
- life assurance policies

Question 55

what is a chargeable gain?

Answer 55

the consideration received (or deemed to have been received)

Question 56

what are the rates applied to chargeable gains?

Answer 56

20% or 10%, unless upper rate gain

Question 57

for CGT purposes, how are disposals to charities treated?

Answer 57

no gain/no loss

Question 58

for CGT purposes, how are gains made by charities treated?

Answer 58

gains made are exempt, provided that the gain is applied for charitable purposes

Question 59

for CGT purposes, how are disposals between spouses treated?

Answer 59

• no gain/no loss
• the spouse acquires the assets at the base cost (original cost) from the spouse who disposed of it

Question 60

for CGT purposes, what is the consideration received deemed to be in a disposal at arm’s length?

Answer 60

the consideration received will be the price paid by the buyer when the asset is sold

Question 61

for CGT purposes, what is the consideration received deemed to be in a disposal between connected persons?

Answer 61

HMRC will deem the seller to have received market value irrespective of the actual sale proceeds

Question 62

for CGT purposes, what is the consideration received deemed to be in a disposal at an undervalue?

Answer 62

HMRC will deem the seller to have received market value

Question 63

for CGT purposes, what is the consideration received deemed to be in a disposal (gift)?

Answer 63

the donor will be deemed to have received the market value of the asset from the donee at the date of the gift

Question 64

who is a connected person for CGT purposes?

Answer 64

✅parents
✅grandparents
✅siblings
✅issue
✅Companies, if they are under common control.
✅Partners in business
❌uncles and aunts
❌nephews and nieces
❌spouses (no gain/no loss)

Question 65

basic calculation of chargeable gain

Answer 65

Question 66

for CGT purposes, what is considered allowable expenditure?

Answer 66

1. initial expenditure
2. subsequent expenditure
3. disposal expenditure

Question 67

for CGT purposes, what is considered initial expenditure?

Answer 67

• The cost price of the asset (the ‘base cost’); and
• The incidental costs of acquisition (eg surveyors’ fees/lawyers’ fees).

Question 68

for CGT purposes, what is considered subsequent expenditure?

Answer 68

• Subsequent expenditure on the asset which enhances its value; and
• Expenditure incurred in establishing, preserving or defending title to the asset.

Question 69

for CGT purposes, what is considered disposal expenditure?

Answer 69

• Incidental costs of disposal (eg agents’ commission).

Question 70

when does a capital loss occur?

Answer 70

when the cost of an asset is greater than the consideration received for it on disposal

Question 71

on what disposals do capital losses not apply?

Answer 71

gifts

Question 72

Since CGT is only charged on overall gains made by an individual in a tax year, what happens to any capital losses?

Answer 72

1. capital losses that an individual has made in a tax year can be carried across and deducted from any gains made in the same tax year
2. if there are insufficient gains against which to offset the losses in the same tax year that the losses are incurred, any unrelieved losses are carried forward to future tax years (in so far as the gains in those years are not covered by the annual exemption of £3,000)

Question 73

what are the limitations on carrying forward capital losses?

Answer 73

• no time limits
• but must be used against the first available gains

Question 74

what is the annual exemption?

Answer 74

all individuals (not companies) are entitled to make up to £3,000 of gains tax free

Question 75

what taxes do companies pay on their gains?

Answer 75

corporation tax on chargeable gains (not CGT)

Question 76

do charities pay CGT?

Answer 76

charities are generally exempt from paying CGT

Question 77

what are the rates of CGT?

Answer 77

• basic rate: 10%
• higher and additional rate: 20%
• upper rate: 18% or 28% (eg for a disposal of a property that is not a PPR)

Question 78

when will an individual’s CGT rate be 10%?

Answer 78

when:

taxable income
+
total taxable chargeable gains after all allowable deductions (incl losses and AE)
=
less than basic rate threshold of 37,700

Question 79

when will an individual’s CGT rate be 20%?

Answer 79

Where an individual’s taxable income exceeds the basic rate tax threshold of £37,700

Question 80

when will an individual’s CGT rate be partly 10% and partly 20% (apportioning)?

Answer 80

Where an individual’s taxable income is less than the basic rate tax band threshold of £37,700
but after the gains are added, the combined total exceeds that threshold:

• that part of the gains within the unused part of the basic rate tax band will be charged to CGT at 10%; and
• any part that exceeds the threshold will be charged at 20%

Question 81

Summary of capital gains tax calculation

Answer 81

Question 82

what is business asset disposal relief (BADR)?

Answer 82

BADR reduces the higher rate of CGT from 20% to 10% for gains arising on qualifying disposals beyond the first £1million gains made (lifetime allowance)

Question 83

for BADR, at what point in the calculation is the reduced 10% rate applied?

Answer 83

it is applied to the taxable chargeable gain (the last step)

Question 84

what is a qualifying disposal?

Answer 84

• All or part of a trading business;
• Assets in a business that used to trade;
• Shares in a trading company; or
• Shares in a company that used to trade;

Question 85

how can BADR be claimed?

Answer 85

the taxpayer must make a claim on or before the first anniversary of 31 January following the tax year in which the relevant disposal is made

Question 86

what are the conditions for a qualifying disposal of all or part of a business?

Answer 86

• The business must be a trading business; and
• The business must have been owned for at least 2 years prior to the date of disposal

Question 87

what are the conditions for a qualifying disposal of assets used in a business that used to trade?

Answer 87

• The business must have been owned for at least 2 years before it ceased to trade;
• The assets must have been used in the business when it ceased to trade; and
• The assets must have been disposed of within 3 years of the business ceasing to trade.

Question 88

what are the conditions for a qualifying disposal of shares in a company?

Answer 88

• The company must be and have been for at least 2 years before the date of disposal, a trading company;
• The shares must have been held for at least 2 years before the date of disposal;
• The person disposing of the shares must have been an officer or employee of the company who holds at least 5% of the ordinary voting shares and entitled to at least 5% of the profits available for distribution and 5% of the net assets on a winding up, for at least 2 years before the date of disposal.

Question 89

what are the conditions for a qualifying disposal of shares in a company that used to trade?

Answer 89

• The shares must (generally) have been owned for at least 2 years before the company ceased to trade;
• The person disposing of the shares must have been an officer or employee of the company who heldat least 5% of the ordinary voting shares and was entitled to at least 5% of the profits available for distribution and 5% of the net assets on a winding up, for at least 2 years before the company ceased to trade; and
• The shares must be disposed of within 3 years of the company ceasing to trade.

Question 90

what type of companies is BADR not available for?

Answer 90

investment companies

eg buy to let property investment

Question 91

to whom does Investors’ Relief apply?

Answer 91

investors in unlisted trading companies who hold their shares for at least 3 years

Question 92

what is Investors’ Relief?

Answer 92

IR reduces the higher rate of CGT from 20% to 10% for gains arising on disposals of qualifying
shares, subject to a lifetime limit of £10 million

Question 93

in the context of Investors’ Relief, what is a qualifying share?

Answer 93

• The shares are fully paid ordinary shares and were issued to the individual for cash consideration on or after 17 March 2016;
• The company is (and has been since the shares were issued) a trading company or the holding company of a trading group;
• At the time of issue of the shares, none of the company’s shares were listed on a recognised
  stock exchange;
• The shares are held by the individual for at least 3 years from 6 April 2016 (and continuously since issue); and
• The individual (or any connected person) is NOT (nor at any time has been from the date of
  issue of the shares) an officer or employee of the company (or any connected company)

Question 94

what are the 2 main business reliefs which
defer (postpone) CGT liability?

Answer 94

• Replacement of business assets relief (rollover relief)
• Gift of business assets relief (hold-over relief)

Question 95

what are the rules on Replacement of business assets relief (rollover relief)?

Answer 95

• To avoid having to pay CGT each time certain business assets are sold and replaced, a taxpayer
  can elect to postpone the CGT liability that arises on the sale of such an asset by ‘rolling over’ the gain into a qualifying replacement asset.
• This applies to land and buildings, fixed plant and machinery and goodwill. The new asset need not necessarily be of the same type as the old one. It merely needs to be within the list of qualifying assets.
• The effect of this relief is that any gain arising from a disposal of a qualifying asset is carried forward and ‘rolled’ into the cost of a qualifying replacement asset. The acquisition cost of the replacement asset is reduced by the amount of the gain being rolled over.
• Therefore, any tax liability is postponed until the replacement asset is sold and no new qualifying replacement asset is purchased in its place.
• It is possible to roll over gains indefinitely, provided sufficient qualifying assets are bought within the requisite time limits.
• Note. The AE cannot be used to reduce any gain rolled over.

Question 96

what are the rules on Gift of business assets relief (hold-over relief)?

Answer 96

Where an individual gives away a business asset, the donor (the person making the gift) and
donee (the person receiving the gift) can claim hold-over relief. As a transfer at an undervalue or
gift, the market value rule will apply. The donor will have no liability to CGT but the donee’s
acquisition cost for CGT purposes is reduced by the amount of the donor’s deemed gain.
In effect the CGT liability is postponed until the donee ultimately disposes of the asset (although
further hold-over relief can be claimed if the donee then gives away the asset).
As in the case of roll-over relief, the whole chargeable gain must be held over if a claim for holdover
relief is made. The donor cannot use their AE to reduce the gain held over.
Hold-over relief may also be claimed where an asset is sold at undervalue but the hold-over relief
will only be available on the gift element, ie the difference between the price paid and the market
value.
Business assets on which hold-over relief may be claimed include goodwill, assets used in the
business and unquoted shares in a trading company.