Chapter 1 - Income Tax

Question 1

Provisions of Income

Answer 1

ITEPA 2003 - Rules for income tax employment
ITTOIA 2005 - Income from trading, property, savings and other investments
Income Tax Act 2007 - income tax, personal allowances and tax reliefs

Question 2

Income Tax Calculations - 6 Step Process

Answer 2

1. Add up all income that could be subject to income tax
2. Take off allowable deductions
3. Deduct personal allowance
4. Extend basic / higher rate tax brackets (pension contributions or gift aid donations)
5. Calculate Tax
6. Take off tax reducers

Question 3

Employed or Self-Employed

Testing Employment Status

IR35 HMRC Rule

Answer 3

Employed or Self-Employed
Testing Employment Status
 Contract for service - self-employed
 Self-employed expenses need to be wholly and exclusively incurred for purpose of business
 Employed - expenses must be wholly and exclusively and necessarily incurred in performance of duties
 Contract of service - employed

Testing Employment Status
 Control over worker/high control indicates employed
 Set hours or holiday pay indicates employed
 Ability to take business risks or benefit from increased efficiency indicates self-employed
 Working wholly/mainly for 1 employer indicates employed
 If in doubt about status, then employer should apply PAYE

IR35 HMRC Rule

• HMRC rules to stop contractors dodging income tax / NIC by setting themselves up as personal services companies (ltd)
• Does not impact self employed workers (sole traders)
• Tax charge applies if leave excess profit in company to avoid income tax

Question 4

Salaried members of LLPs

Answer 4

• Taxed under self-assessment (rather than PAYE) if more than 20% pay based on profits of LLP or have significant say in running of LLP or have made significant capital contribution to LLP (25% of LLP income plus)

Question 5

Taxation of Employee Benefits

Answer 5

 Most benefits provided to employees and their families deemed to be employment earnings and therefore taxable
 Unless more specific rules apply, employees are taxed on cash equivalent benefit (usually cost to employer) rather than 2nd hand value
 Less any employee contribution
 In-house benefit (not bought in) - cost of benefit is marginal cost to employer (Pepper v Hart)
 Use of asset - annual value (20% market value of asset when first provided to employee)
 If asset is rented by employer - higher of annual value or rent paid
 Plus, any expenses incurred by employer maintaining asset
 Asset given outright -market value at time of gift unless new then cost to employer of providing asset
 Use of asset before given outright - higher of market value at time of gift and market value when first made available to employee less amount(s) already taxed as benefit

Question 6

Living Accommodation

Answer 6

• Provided by employer - assessment on benefit of occupying property
• Assessed on annual value of rent that could be obtained or rent actually paid if greater
• If owned by employer and cost more than £75,000:
  o Additional charge on excess of cost over £75,000 x 2.00% (HMRC official rate of interest)
  o If acquired more than 6 years prior to being provided to employee - market value of property when first provided is used to calculate additional charge
• Exempt occupation (no charge) if:
  o Accommodation is necessary for performance of duties e.g., caretaker
  o Accommodation helps employee perform duties better/customary e.g., publican o Special threat to employee’s security
• Furnished accommodation - additional 20% taxable benefit

Question 7

Company Cars

Other Car Considerations

Free Fuel for Private Use

Answer 7

Company Cars
 Taxable car benefit = percentage of list price (max 37%)
 Percentage is determined by carbon dioxide emissions and date of registration
 Qualifying level = 55 grams per kilometre base charge = 15% of list price for cars registered on or after 6 April 2020, 16% for cars registered before then
 No cap on list figure
 Diesel cars subject to extra 4% charge (but no higher than 37%)

Other Car Considerations
 Contributions towards running costs - car benefit charge reduced accordingly
 Contributions towards capital costs -up to £5,000 deducted from list price
 Availability - if only available for part year, then reduced accordingly
 Pool cars are not taxed as benefit

Free Fuel for Private Use
 Percentage of set figure (£24,600 for 2021/22)
 Same percentage as used for car benefit
 Reduced if proportionate use

Company Vans
 Taxable benefit of £3,500 for employees provided with a company van, plus £669 where van fuel is available for private journeys

Question 8

Beneficial Loans Rules

Answer 8

• Taxable benefit is difference between HMRC official interest rate (2.00% for 2021/22) and amount actually paid
• Beneficial loans below £10,000 are not taxable

Question 9

Other Taxable Benefits

Answer 9

• Cash vouchers - treated as earnings for tax purposes
• Non-cash vouchers - taxed on amount equal to cost incurred by employer
• Credit token - treated as having received benefit equal to cost incurred by employer
• Employee liabilities - e.g., rent, generally benefit is fully taxable
• Medical insurance - taxable benefit - group premiums apportioned on reasonable basis/cost of treatment is taxable/£500 annual exemption per employee

Question 10

Benefits Wholly/ Largely Tax Exempt

Answer 10

Benefits Wholly/ Largely Tax Exempt

Group Income Protection
o Premiums paid by employer are usually allowable deduction for them
o Benefits are paid to employer and treated as trading receipt
o Employer deducts tax and NI and pays to employee as sick pay
o Premiums on group income protection are not taxed as a benefit

• Meal Provision - low cost or free canteens - not taxable
• Mobile Phones - providing one phone is not a taxable benefit
• Long-Service Awards - 20 years or more (max £50 per year of service)
• Suggestion Schemes - £25 or less
• Work training normally exempt
• Relocation and Removal Expenses - tax free up to £8,000
• Home-Working - up to £6 per week
• Workplace Nurseries/Other Child-Minding - tax free/and childcare vouchers up to £55 pw (closed to new entrants since Oct 2018)
• Liability Insurance - employers paying indemnity insurance - not taxable
• Trivial Benefits – not taxable where cost to employer no more than £50 per employee
• Tax exemption £500 of pensions’ advice provided by employer to employee per tax year
• Coronavirus antigen tests

Question 11

Self Employed

Answer 11

o 1st year - profits for that tax year
o 2nd year - based on profits for accounting period ending in the tax year
o If not full year, then first 12 months’ profit
o 3rd and subsequent years - profit for accounting period ending in that tax year

o If change accounting period / sell business, overlap relief can be claimed where profits charged to tax more than once
o Choice of accounting date makes a difference to timing of tax payments on profits
o Date self-employed person retires/ceases employment affects tax liability in final year of business

o Deductions must be wholly and exclusively incurred and of revenue nature
o Trading allowance – if trading income less than £1,000 (before expenses) then it
is exempt from tax and does not need to be declared. If greater than £1,000, then can claim the allowance against the income in lieu of deducting actual expenses.

Question 12

Property Income

Answer 12

• Accounts for property letting are drawn up to 05/04 or 31/03
• Property Allowance - exempt if less than £1,000

Question 13

Savings Income

Answer 13

• Includes purchased life annuities and gains from life assurance contracts
• UK resident - income taxable regardless of source (inside or outside UK)
• Non-UK resident - taxable only if source is inside UK
• Taxed on income received during tax year
• No deductions allowed
• Bank, building society, NS&I, interest distributions from UTs/OEICs, gilts, local authority bonds, corporate bonds all paid gross
• Basic rate tax (20%) deducted at source from other sources including interest element of PLAs
• Non-taxpayers and starting rate taxpayers (i.e., those with taxable savings income falling within the £5,000 0% band) can reclaim
• Gross income required on tax returns, so gross up interest from net amount
• (Multiply by 1.25 or divide by 0.8)

Question 14

Allowable Deductions -

Interest Payments
Relief by making a claim

Answer 14

Interest Payments

• Purchase of shares in borrowers company or to finance loans - must be controlled by 5 or fewer shareholders
• investment in partnership
• To buy plant / machinery for use in partnership
• Payment of Inheritance tax
• Capped at higher of £50000 and 25% of total adjusted income (Total Income + Charitable donations through payroll - pension contributions)

Interest Payment - Example
For 2021/22, Sally has a share of partnership profits of £260,000. During the year, she made a gross personal pension contribution of £30,000 and paid interest of £65,000 on a loan taken out to finance partnership. Sally’s adjusted total income is £230,000 (£260,000 - £30,000) so the cap is £57,500 (£230,000 x 25%), therefore only £57,500 of the loan interest can be deducted with no relief being given for the remaining £7,500.

Relief by making a claim

• Retirement annuity contracts issued before 01/07/88
• Where payments made gross
• Tax relief given by deducting from total income

Question 15

Extend Tax Bands -
Gift Aid
Summary of tax treatments of pension contributions

Answer 15

• Extend basic and higher rate bands if any net pension contributions and/or gift aid donations made
• Extend by gross contribution / donation
• Gift Aid
  o Charity donation treated as payment on which BR tax (20%) has been deducted
  o Charity can recover the tax
  o Donor’s basic and higher rate tax limits are increased by gross amount
  o No minimum or maximum donation
  o Not available for non-taxpayers (liable for excess tax deducted)
  o Limit on reciprocal benefits – gift up to £100, benefit cannot exceed 25%, gift over £100, benefit cannot exceed £25 + 5% of gift’s value over £100, capped at £2,500.
  o Donor does not need to be a UK resident if the gift is made out of income or gains subject to UK tax
  o Individuals can also benefit from tax reliefs for gifts of pre-eminent objects to the nation. The tax reduction is equivalent to 30% of the value of the pre-eminent object.

                                                Summary of tax treatments of pension contributions

Relief at source

• Pension contribution made after deducting basic rate of income tax
• Applies to PP/GPP/SIPP
• Scheme Administrator reclaims from HMRC
• Higher / additional rate tax relief given via self assessment

Net Pay Arrangement
- Employee payments to occupational schemes are deducted before calculating tax (includes AVC’s) i.e. deduct from gross income

Relief by Making a Claim

• Payment made gross
• Tax relief given by deducting from total income
• Retirement annuity contracts issued before 01/07/88

Question 16

Tax Reducers -

Marriage Allowance

Married Couple’s Allowance

Investments

Pre-eminent objects to the nation

Tax paid at source

Property finance costs

Answer 16

Marriage Allowance
o Married couples/civil partners can transfer 10% of their personal allowance to each other
o Provided neither pays tax at more than the basic rate
o Full 10% must be transferred

Married Couple’s Allowance
o £9,125
o Reduced if net income over £30,400, but floor of £3,530
o Tax reduced - relief given @ 10%
o Only available if either spouse born before 06/04/35
o Reduce income below threshold - swap investments between couple/switch out
of income producing investments

Investments
o EIS/VCT 30% of eligible investment can be deducted from tax bill
o SEIS 50% of eligible investment can be deducted from tax bill
o Cannot reduce tax bill to less than £0

Pre-eminent objects to the nation
o 30%
o Spread over 5 years

Tax paid at source
o e.g., on purchased life annuity

Property finance costs
o 100% given as basic rate deduction

Question 17

Other issues

High-income child benefit charge

Child tax credit (if not claiming universal credit)

Answer 17

 High-income child benefit charge
o If adjusted net income is more than £50,000 a year the charge withdraws all or part of the child benefit received
o Removes 1% of child benefit received for every £100 of excess adjusted net income over £50,000
o Income over £60,000 - no child benefit
o Adjusted net income is income after gross pension payments and gift aid donations

 Child tax credit (if not claiming universal credit)
o Family element worth up to £545
o Child element, standard amount £2,845
o Claimed from HMRC
o Reduced by 41p for every £1 of income over £16,480
o Make PP contributions to reduce income
o Working tax credit / universal credit may be available for those on low incomes

Question 18

Annuity Payments

Answer 18

Tax is deducted at the basic rate of 20% from some payments of interests and annuities before recipient receives it

Most Purchased Life Annuities are paid net of basic rate tax

Question 19

Blind Persons Allowance

Answer 19

Allowance of £2,520

Question 20

Income Tax and Trusts

Answer 20

Bare Trusts

• Income taxable as the beneficiary income and at rates that depend on beneficiaries other income
• Beneficiary liable for the tax
• Income of a bare trust for a minor is taxed as the parents income where the capital comes from a parent and the income exceeds £100 gross in a tax year. Full amount Is taxable not just excess over £100
• Not taxed as parents income where capital comes from grandparents.

Life Interest and Interest in possession trusts

• Where one or more beneficiaries have a right to the trust income as and when it arises
• Trustees liable for basic rate tax on any income beneficiaries receive
• Personal savings allowance not applicable to trustees
• Dividend Allowance not applicable to trustees
• Bank and Building Society interest is paid gross
• Not liable to higher rate tax
• Trustees not entitled to tax relief for the expenses of managing trust
• Use R185 Trust Income form which details the income and tax

Discretionary Trusts

• Trustees have a standard rate band which in 2021/22 is £1,000 divided by the number of such trusts created by the settlor. Minimum of £200 per trust.
• UK Dividends, rate is 38.1
• No PSA or Dividend Allowance
• Expenses are first set against dividend income, then savings income and finally other income. 7.5% if set against dividends, 20% if set against savings income or other income e.g. rents
• If income is accumulated and therefore not paid out, no tax liability due for beneficiary
• Where trustees of a discretionary trust make a income distribution to a beneficiary, they must have paid 45% tax on that distribution, and the beneficiary receives trust income with an equivalent tax credit.