Ch 7 - Trading profits: basis of assessment

Question 1

What are the steps to tax a sole trader

Answer 1

1. Adjust profits for the accounting period
2. Deduct capital allowances for that accounting period
   Tax adjusted trading profit for the accounting period
3. Consider which tax year to assess this account period is = basis periods

Question 2

What are the 3 scenarios for basis periods and and discuss how they are taxed?

Answer 2

Ongoing business - assessed on account period ending in the tax year

Commencement of trade - assessed using special ‘opening year’ rules

Cessation of trade - assessed using special ‘closing year’ rules

Question 3

What is the current year basis?

Answer 3

The way profits of an ongoing business are assessed (12 month accounting period ending in that tax year)

Question 4

TYU1 : Antionio prepares accounts to 30 April annually. His recent taxable trading profits have been as follows:

Y/e 30 April 17 = £67,200
Y/e 30 April 18 = £98,100

In which tax years will these profits be assessed?

Answer 4

Tax year 17/18 - basis period y/e 30 April 17 = £67,200

Tax year 18/19 - y/e 30 April 2018 £98,100

Question 5

How are taxable years treated?

Answer 5

Q1. is there a period of account ending in 2nd tax year
YES - How long is it: exactly 12 months/ less than 12 months/ more than 12 months

NO- tax actual TAX YEAR = 6 April - 5 April

Exactly 12 = Tax that period of account: CYB
Less than 12 months: Tax FIRST 12 months of trading (from commencement)
Over 12 months, tax LAST 12 months of long POA

Question 6

TYU2: Miriam commenced trading on 1 Dec 2017, and made up her first set of accounts to 30 Nov 18
Her tax adjusted profits for the 12 months ended 30 November 18 were £26,400

Calculate her assessable profits for the first tax year of trade

Answer 6

First identify which tax year Miriam in which begins to trade:
1 Dec 18 falls in tax year 17/18
Since this is her first year of trade, she is assessed on profits made in that tax year (i.e. 1 Dec 17- 5 April 18)

Therefore, profits assessed = 4/12 x £26,400 = £8,800

As 4 months from 1 Dec 17 - 1 April 18

Question 7

What are overlap profits?

Answer 7

Arise when the same profits are taxed in more than 1 tax year

Overlap profits are carried forward and deducted in the final assessment, when the business ceases to trade

Question 8

What must be done when epriod of account ending in the second year of tax is shorter than 12 months

Answer 8

If perThen the sole trader must tax the first 12 months of trade

Question 9

What is the period of account ending in the second tax year is longer than 12 months?

Answer 9

The sole trader must tax the last 12 months of the long period of account ending in the second tax year

Question 10

TYU3: Linda started business on 1 Nov 16, preparing acc to 31 October 
Adjusted profits are as follows: 
y/e 31 Oct 17 = £15,000 
y/e 31 Oct 18 = £36,500 
y/e 31 Oct 19 = £49,000 

What are the assessments for the first 4 tax years of trading

Answer 10

16/17 Actual basis: 1 Nov 16-5 April 17 = £15000*5/12

17/18 CYB: Y/e 31 Oct 17 £15,000
18/19 Y/e 31 Oct 18 £36,500
19/20 Y/e 31 Oct 19 £49,000

Overlap = 5/12 months in first year = £6,250

Question 11

TYU4: Hardeep started to trade on 1 June 2017 and prepare accounts for the y/e 31 May 18. His tax adjusted profits after the eduction of capital allowances were £50,000

Calc the trading income assessments for all relevant years and state the overall profits

Answer 11

17/18 Actual basis 1 June 17- 5 April 18 = £41,667 (£50,000 * 10/12)
18/19 CYB: Y/e 31 May 2018 50,000

Overlap = 10/12 * £50,000

Question 12

TYU5: Harry started in bus on 1 Jan 17. He prepared first set of acc for the period ended 31 July 18 and annually to 31 July there after.

His adjusted profits as were follows:
Period ended 31 July 17 = £15,500
Y/e 31 July 18 = £30,200
Y/e 31 July 19 = £29,000

Show the assessable trading income for all relevant tax years and calc the amount of any overlap profits

Answer 12

16/17 Actual basis: 1 Jan 17 - 5 April 17 £6,643 (£15,500 * 3/7)

17/18 1st 12 months of trade = 1 Jan 17 - 31 Dec 17 £28,083 (£15,500 + (£30,200 * 5/12)

18/19 CYBL 1 Aug 17 - 31 july 18 30,200

19/20 CYB : 1 Aug 18 - 31 July 19 £29,000

Overlap = £6,643 (£15,500 * 3/7) at first year and (1 Aug 17 - 31 Dec 18 = £12,583) = £19,226

Question 13

TYU6: Pattie started trading on 1 Sept 16. She prepared acc to 30 June 17 and annually thereafter.

Her tax adj trading profits for the first 2 periods were as follows:
Period ended 30 June 17 = £30,000
Y/e 30 June 2018 = £48,000

Calc the trading income assessments for all relevant years and state the overlap profits

Answer 13

16/17 Actual basis 1 Sept 16- 5 April 17 (£30k * 7/10) = £21k

17/18 1st 12 months of trade: 1 Sept 16- 31 Aug 17 (£30k + £48k*2/12)

18/19 Current year basis 1 July 17- 30 June 18) = £48k

Overlap profits = 1 Sept 16- 5 April 17 = £21k + 1 July 17 - 31 Aug 17 = £8k

Question 14

What is the period of account ending in the second tax year is longer than 12 months?

Answer 14

The sole trader must tax the last 12 months of the long period of account ending in the second tax year

Question 15

What must be done if no period of account ends in the second tax year?

Answer 15

Then the sole trader must

• In the second tax year, continue to use the actual basis
• In the third year, apply the rules for the period of account longer than 12 months ending in the tax year

Question 16

TYU7: Zachary started in bus on 1 July 16. he prepared his first set of acc for the period 31 Dec 17 and annually to 31 Dec thereafter.

Adjusted profits were
Profit ended 31 Dec 17 = £7,500
Y/e 31 Dec 18 = £3,400

Calculate the assessable trading profits for all relevant tax years and any amount of overlap

Answer 16

16/17: Actual basis 1 July 16 - 5 April 18 (£7,500*9/18) = £3,750
17/18 12m to acc date 1 Jan - 31 Dec 17 (£7,500 * 12/18)
18/19 = CYB 1 Jan - 31 Dec 18 = £3,400

Overlap = 1 Jan 17 - 5 Apil 17 = 3/18 * £7,500 = £1,250

Question 17

What are the steps to tax a partnership?

Answer 17

1. adjust profits for the accounting period
2. Deduct capital allowances for the acc period
   = Tax adjusted trading profit for the acc period
3. Share this between the partners using the profit sharing agreement:
   - Allocate ‘salary;
   - Assign ‘interest on capital’
   - Share remaining profit as per the profit sharing ratio (PSR) ; evenly split = 1:1
4. Tax each partner individually using the basis period rules

Question 18

TYU8: Helen started trading 1 Feb 16 and draws up her first acc to 31 July 17, and 31 July thereafter.
Tax adjusted trading profits are
Period ended 31 July 17 = £42,000
Y/e 31 July 2018 = £45,000

Calc the trading profits assessable for all relevant tax years and the overlap profits arising

Answer 18

15/16 = Actual basis 1 Feb 16- 5 Apr 16 (£42,000 * 2/18)
16/17 Actual basis (No acc period in yr) 6 Apr 16- 5 Apr 17 = £42k * 12/18

18/19 Ye 31 July 18: CYB £45,000

Overlap = 8/18 * £42k = £18,667

Question 19

TYU9: Maria commenced business on 1 Jan 16 and made up her first set of acc for period 30 April 17, and thereafter 30 April each year.
Her tax adjusted trading profits have been
Period ended 30 April 17 = £24,000
Y/e 30 April 18 = £30,000

Calc the trading profits assessable for all relevant tax years and the overlap profits arising

Answer 19

15/16 Actual basis 1 Jan - 5 Apr 16 (£24k * 3/16) = £4,500
16/17 Actual basis (no acc period in yr) = 6 April 16 - 5 April 17 = £24k * 12/16 = £18,000

17/18 12m to accounting date: 1 May 16 - 30 Apr 17 (£24k * 12/16) = £18k

18/19 CYB 1 May 17 - 30 Apr 18 = £30k

Overlap = 1 May 16 - 5 April 17 = 11/16 * £24k = £16,500

Question 20

What is the cash basis for small businesses?

Answer 20

Small UNINCORPORATED businesses (ST & P) can elect to use cash basis acc, rather than accruals basis

Will be told in the exam if it is being used

Question 21

TYU10: Albert has eben trading for some year preparing his acc to 31 Dec.
He ceased trading on 31 March 19 with profits as follows
Y/e 31 Dec 17 = £19,000
Y/e 31 Dec 18 = £22,000
P/e 31 March 19 = £12,000

Overlap profits arising in the opening years were £3,500

Calc the trading profits that will be assessed on Albert for all relevant tax years

Answer 21

17/18 Y/e 31 Dec 17 CYB 19k
18/19 - profits not yet assessed = Y/e 31 Dec 18 £22k
+ 3 months ended 31 Mar 19 £12k
Less overlap relief b/f (£3.5k)

Total = £30.5k

Question 22

TYU11: Jerome has been trading for some years, making his acc to 30 Nov

Ceased trading on 30 April 19 with profits as follows
Y/e 30 Nov 18 = £3,600
Period ended 30 April 19 = £16,700

Overlap profits arising from opening years of trade was £4,100

Calculate the trading income assessments for all relevant years

Answer 22

18/19Y/e 30 Nov 18 CYB £33,600
19/20 - profits not yet assessed
5 months ended 30 Apr 19 £16,700
Less overlap relief b/f (4,100)

Total = £12,600

Question 23

When the trader takes good for own use without paying an arms length price in a cash basis, what amount should be added back to the accounts?

Answer 23

a ‘just and reasonable’ amount

Question 24

What are the differences to tax adjustments in the accounts for cash basis compared to accruals basis - PAYMENTS ONLY

Answer 24

Allowable payments include

• Business expenses paid
• Interest on BUSINESS loans, CAPPED at £500 p.a
• Full business proportion of car lease payments (i.e. no 15% disallowance for high emission cars)
• Payments for plant and machinery (except cars)
• Capital allowances for cars

Allowable payments do NOT include

• bad debts (as income is only taxed when received from the customer, so there aren’t any bad debts for tax purposes)
• Capital allowances on plant and machinery other than cars
• Capital expenditure (e.g. purchase of a building)

Question 25

Which of the following are allowable/disallowable for cash basis trading?

Cash receipts
Cheques cashed
Cash receipt on sale of P&M
Interest received

cash payments to suppliers of goods for resale
Cash payments to other suppliers (includes client entertainment)
Cheque payment for new cr (CO2 emissions 104g/km)
Interest paid on bank loan

Answer 25

Cash receipts - allowable
Cheques cashed - allowable
Cash receipt on sale of P&M - allowable as not cars
Interest received - not allowable, deduct as it gets taxed elsewhere

cash payments to suppliers of goods for resale - allowable
Cash payments to other suppliers (includes client entertainment) - remove client entertainment (add back)
Cheque payment for new car (CO2 emissions 104g/km)
Interest paid on bank loan - allowable up to £500 cap (remove the rest)

Question 26

What are the conditions for joining the cash basis for small businesses scheme?

Answer 26

• Unincorporated business may join the scheme if cash receives don’t exceed registration limit of £150k
  (if the sole trader receives the Universal Credit, this limit is doubled)

But must leave if previous tax year exceeded twice the registration limit for that year

Combined receipts of all trader’s businesses must be considered in deciding whether they can use the scheme

Question 27

When can a business no longer be in the cash basis for small business scheme?

Answer 27

Must leave if previous tax year exceeded twice the registration limit for that year

Combined receipts of all trader’s businesses must be considered in deciding whether they can use the scheme

Question 28

What happens once a trader has made the election for the cash basis on their self assessment tax return?

Answer 28

Will apply for the current tax year and all subsequent tax years provided the trader’s receipts don’t exceed the limit of £150k (£300k if receives Universal Credit)

May elect to prepare accounts in accordance with UK GAAP instead if this would be more appropriate