1.3 Employee taxation & Administration of taxes

Question 1

Income tax

Answer 1

Employees are taxed on their earnings and can include salaries, bonuses, commissions and benefits in kind

Question 2

Benefits in kind are

Answer 2

non cash payments in lieu of further cash payments paid for by the employer on behalf of the employee
- company cars
- living accommodation
- loans
- private medical insurance

Question 3

Deductible expenses from income tax

Answer 3

Expenses incurred by employee directly and are wholly, exclusively and necessary for employment
- Eg: business travel, contributions to pension plans, donations to charity and professional subscriptions

Question 4

Social security taxes

Answer 4

Employees and entities may also be liable to pay social security taxes based on salaries paid to employees
- In the UK this is called national insurance and is used to fund public health service and retirement benefits

Question 5

Pay-as-you-earn (PAYE) system

Answer 5

Most governments expect entities to withhold tax on employees salaries and report earnings to tax authorities

Question 6

The benefits of having a PAYE system

Answer 6

• Tax is collected at source (taxpayers less likely to default)
• Tax authorities receive regular payments from employers (helps government to budget cash flows)
• Tax authority only has to deal with the employer, rather than a number of individuals
• Most of the administration costs are borne by the employer instead of the government

Question 7

The standard pro forma for calculating employee tax

Answer 7

Salary
PLUS: Bonus, commission, benefits
LESS: Subscriptions
LESS: Pension contributions
LESS: Charity donations
LESS: Personal allowances
= Taxable income

Question 8

Record keeping

Answer 8

Entities need to keep records to satisfy tax requirements for the following taxes:
- Corporate income tax
- Sales tax
- Overseas subsidiaries
- Employee tax

Question 9

Corporate income tax records

Answer 9

All records required to support the financial statements figures and any additional documents required to support any adjustments made to the statements

Question 10

Sales tax records

Answer 10

Adequate records should be kept of all the sales and purchases
- Orders and delivery notes
- Purchase and sales invoices
- Credit and debit notes
- Purchase and sales books
- Import and export documents
- Bank statements
- Cashbooks and receipts
- The VAT account

Question 11

Overseas subsidiaries records

Answer 11

Tax authorities require documentation about the transfer pricing policy between the subsidiary and the parent
- these are prices charged for goods by one to another
- most tax authorities require the price to be the same as if charged to a third party

Question 12

Employee tax records

Answer 12

Employers have to keep detailed records of employee tax and social security contributions
- They will also need to complete a number of year end returns to show the total deductions made from employees wages, the employers contributions and an analysis of any other amounts deducted
- the employer is also required to provide details to the employee

Question 13

Tax return

Answer 13

Tax authorities set deadlines for the submission of returns and payment of tax
- the entity will pay tax either after an assessment from tax authority or via self-assessment (UK & USA)
- tax authorities will then check return to confirm the correct amount of tax has been paid

Question 14

Minimum retention of records

Answer 14

The minimum length of time for retention of records
- In the UK this is six years for all records relating to earnings and capital gains
- the purpose is to enable authorities to question or challenge records up to several years later

Question 15

Payment of tax

Answer 15

Will depend on the rules of tax authority and the type of tax that is due
- tax is not always paid when the return is filed, it may happen earlier or later
- interest will be charged on late payments of tax

Question 16

Reasons why governments set deadlines for filing returns and/or paying taxes

Answer 16

• Entities will know when payment is required
• Enables authorities to forecast their cash flows more accurately
• Provides a reference for late payment (useful for applying penalties)
• To prevent entities spending tax money deducted from employees

Question 17

Power of tax authorites

Answer 17

Tax authorities have various powers to impose penalties and interest on late payment of tax
In addition they have the power to:
- Review and query filed returns
- Request special reports if they believe inaccurate information has been submitted
- Examine records of previous years
- Enter and search the entity’s premises and seize documents
- Pass on information to foreign tax authorities

Question 18

Tax avoidance

Answer 18

is tax planning to arrange affairs, within the scope of the law, to minimise tax liability (setting up subsidiary overseas in a low tax economy)
The negative publicity from public perception if entities are not seen to pay their fair share of tax can have a adverse affect on overall business

Question 19

Tax evasion

Answer 19

is the illegal manipulation of the tax system to minimise the tax liability (intentional disregard of the law to escape tax)
- can include claiming a tax deduction for expenses which are not tax deductible, under declaring income and claiming fictitious expenses

Question 20

The tax authorities use various methods to prevent tax avoidance and evasion

Answer 20

• Reducing opportunity - by deducting tax at source and use of third party reporting
• Simplifying tax structure - by minimising the relief, allowances and exemptions
• Increasing detection - through auditing tax returns and payments
• Developing good communication - between tax authorities and entities
• Changing social attitudes - towards evasion and avoidance by maintaining an honest and customer friendly tax system
• Reducing lost revenue - by reviewing the penalty structure