Business Taxation - Trading Profits (3) Flashcards
What are trading profits?
Trading Profits: Trading profits are a form of taxable income of businesses generated from goods and services.
(1) Income Tax: Sole traders and partnerships pay income tax on trading profits (Income Tax Act 2005).
(2) Corporation Tax: Companies pay corporation tax on trading profits (Corporation Tax Act 2009; 2010).
How are trading profits calculated?
Calculation: Trading profits are calculated for each accounting period, and are subject to available loss reliefs.
(1) Chargeable Receipts - (2) Deductible Expenditure - (3) Capital Allowances = Trading Profit
(a) Accounting Period: A period of 12 months ending on a date set by the business.
>If the tax rate changes during the period, tax is apportioned accordingly.
(b) Loss Relief: Trading losses may be set off against gains in the current and other years, to reduce liability.
What are chargeable receipts?
Chargeable Receipts: Money received for goods and services sold in the course of trade which is ‘income’ in nature.
(1) Course of Trade: Commercial supplies of goods or services to customers for reward.
>Charitable work is not in the course of trade.
(2) Income: Profits generally recurring in nature (i.e. sale of goods).
>Not capital, which is one-off profit (i.e. sale of company warehouse).
What is deductible expenditure?
Deductible Expenditure: Money spent wholly and exclusively for the purposes of trade which is ‘income’ in nature is deducted, unless non-deductible.
(1) Purposes of Trade: Money spent solely for trade purposes (businessman spending on dinner is not deductible - this is not solely for the business).
Work-from-Home: HMRC will allow work-from-home expenditure to be apportioned, such as internet bills for working hours (ITTOIA 2005).
(2) Income: Expenditure is recurring in nature (i.e. stock, salaries, rent, pensions, loan repayments).
(3) Non-Deductible: Money spent on client entertainment and high-emission car leases is non-deductible.
What are capital allowances?
Capital Allowances: A proportion of expenditure on capital is deductible, i.e. plant and machinery. This helps with cash flow.
(1) Plant: Apparatus used to conduct business (i.e. computers, tools, vehicles).
(2) Machinery: Given its ordinary definition.
Writing Down Allowance
Writing Down Allowance: Total value of capital assets is pooled, and 18% of value deducted from chargeable receipts.
(1) Valuation: Valuation is made at the start of the financial year. Deductions are accounted for in next valuation.
(2) Land: Land is not included.
(3) Asset Sale: The proceeds of sale are deducted from the pool value.
>If sold at a gain, WDA is proportionately lower in the following year, balancing tax paid.
(4) Asset Purchase: The value of a purchase asset (after AIA/full expensing) is added to the pool and 18% of that value is immediately deductible.
Annual Investment Allowance
Annual Investment Allowance: Entire value of assets purchased in the financial year are deductible, to a maximum of £1,000,000. Any value above this amount is added to WDA.
(1) Land: Land is not included.
(2) Groups of Companies: Groups of companies are entitled to one AIA across all companies.
Full Expensing
Full Expensing: Companies can deduct the entire value of brand new assets purchased in the financial year, from April 2023 to March 2026 (uncapped).
What kind of loss relief is there for trading profits?
Loss Relief: Unincorporated businesses can offset trading losses against trading gains, reducing their overall tax liability. One or more reliefs can be exercised simultaneously. These must be applied for from HMRC (non-automatic).
(1) Sole Traders: Sole traders apply reliefs to the entire business.
(2) Partners: Partners apply reliefs proportionately to their share of partnership income. Partners can apply reliefs at their discretion, irrespective of the reliefs or lackthereof elected by other partners.
Start-Up Loss Relief
Start-Up Loss Relief: Losses made in the first four years of trading are carried back and set against total income in the three previous tax years, from earlier years first until fully absorbed.
(1) Total Income: Losses are applied to total income, meaning the benefit of personal allowance is lost. Loss may be applied to income derived from different sources, such as a sole trader’s former salary.
(2) Claim: Claims must be made by 31 January in the tax year following the tax year of loss assessment.
(3) Cap: Capped at greater of 25% of income, or £50,000, per tax year, where applied to other income sources.
Carry-Across and Carry-Back Relief
Carry-Across and Carry-Back Relief: Trading losses in the accounting period can be set against income in the same tax year, or the previous tax year until fully absorbed, and then the alternative until fully absorbed.
(1) Total Income: Losses are applied to total income, meaning the benefit of personal allowance is lost. Loss may be applied to income derived from different sources, such as a sole trader’s former salary.
(2) Claim: Claims must be made by 31 January in the tax year following the tax year of loss assessment.
(3) Cap: Capped at greater of 25% of income, or £50,000, per tax year, if applied to other sources of income.
Capital Gains Set-Off Relief
Capital Gains Set-Off Relief: Trading losses in the tax year can be set off against capital gains in the same tax year, provided the taxpayer has exercised carry-across relief and has outstanding losses remaining.
Claim: Claims must be made by 31 January in the tax year following the tax year of loss assessment.
Carry-Forward Relief
Carry-Forward Relief: Trading losses may be carried forward and set against trading profit, in ascending order.
(1) Trading Profit: Loss is set against trading profit, meaning personal allowance may be used in conjunction. It can be carried forward indefinitely until fully absorbed, or used in conjunction with other remedies.
(2) Claim: Intention must be given within 4 years of the end of the tax year in which the loss was incurred.
Terminal Carry-Back Relief
Terminal Carry-Back Relief: Any loss in final 12 months of trading may be carried across and set against trade profits in final tax year, and then carried back against trade profits of preceding 3 years in descending order.
(1) Trading Profit: Allows losses connected to trade but not actually derived from trade to be set off.
(2) Claim: Intention must be given within 4 years of the end of the tax year in which the loss was incurred.
Incorporation Carry-Forward Relief
Incorporation Carry-Forward Relief: Where a business is transferred to a company wholly/mainly for shares, unabsorbed reading losses can be carried forward and set against income from the company (salary and dividends).
(1) Shares: More than 80% of the purchase must be funded by shares in that company.
(2) Set Off: The taxpayer can elect both salary and dividends to set the loss against, in any order they choose. This is uncapped.
(3) Claim: Intention must be given within 4 years of the end of the tax year in which the loss was incurred.
