Chapter 6 Common Adjustments: Flashcards
6.1 Pre-Trading expenditure
Expenditure incurred in the seven years before commencement of trade as treated as incurred on the first day of trading. The expenses are treated of being incurred on the first day of trading and are deducted from profits in the first accounting period.
6.2 Entertaining and Gifts
Costs incurred by a trader in providing business entertainment are disallowed for tax purposes. Business entertaining means providing hospitality of any kind. However, costs incurred by an employer in providing entertainment for members of staff are allowable. Business gifts are generally disallowed unless:
• The total cost of all assets gifted to the same person in the same period is not more than £50
• The gift bears the business name, logo or a clear advertisement
• The gift does not include food, drink or tobacco.
Gifts of items which it is the taxpayer’s trade to provide (eg trade samples) are allowed.
6.3 Interest Payments
Provided the loan is taken out for a business purpose, interest payments will be allowable expenses for tax purposes. This will include overdraft interest (provided the account is a genuine business account).
Where the loan is taken out for a mixed purpose (buy an asset for both business and personal use for example), only the business proportion of the interest is allowed. No deduction is allowed for the repayment of the capital part of the loan itself and no deduction is available for the interest on overdue tax. Incidental costs of obtaining loan finance (loan arrangement fees) are allowed.
6.4 Assets bought on hire purchase
If an asset is bought on hire purchase, legal ownership of the asset passes to the trader at the end of the contract period. We treat this however as if the lessee owns the asset from the start of the contract, with the trader paying for the asset over a period of time. Monthly repayments will contain both an interest and a capital repayment element. The capital element is not allowable, the interest is a deductible expense. Capital allowances can be claimed on the capital cost of the asset.
6.5 Leasing costs
A lease arrangement is where a trader is borrowing an asset owned by someone else. Costs incurred in leasing or hiring an asset to be used in the trade will be allowable. There are two ways in which a trader will lease an asset.
Operating lease – where the lessee does not have substantially all the risks and regards incidental to the ownership of an asset, he is considered to have an operating lease. The trader pays a rental payment to the owner of the asset and deducts the lease payments in the P+L.
Finance lease – where the lessee does have substantially all the risks and rewards incidental to the ownership of an asset, he is considered to have a finance lease. Under section 20 of FRS 102, the trader is required to treat a finance lease in the same way as if he had bought the asset by way of loan. The trader will recognize the asset on his balance sheet and depreciate the asset over its normal life. He will charge depreciation and interest payments through the P+L account (this is the only time a trader will be allowed depreciation as a tax deduction).
No capital allowances can be claimed on these assets as the trader does not own the asset. There is a difference between an operating lease and a finance lease in respect of what is charged to the P+L. For an operating lease only lease rentals is charged to the P+L, for a finance lease, finance lease interest and depreciation is charged to the P+L.
6.6 High Emission Cars
Relief is restricted for the leasing of high emission cars. A flat rate disallowance of 15% of the leasing costs applies to cars with CO2 emissions exceeding 110g/km. For leases entered into on or after 6 April 2021, the restriction applies to cars with Co2 emissions exceeding 50g/km. The allowable element of the leasing costs is therefore:
85% x lease charge in P+L account
The restriction does not apply to: the leasing of cars which are either electrically propelled or low emission or the leasing of motor cycles.
The restriction only applies to the leasing of high emission cars, any maintenance costs incurred in related to leased cars are allowable in full regardless of the CO2 emissions.
6.7 Bad Debts
Any bad debts written off in the year are deductible. Any specific provisions (where it can be matched to a specific debtor) are also allowable. This rule only applies to trade debts, if a trader writes off a money debt (loan), this is not an allowable deduction as it does not relate to the trade (unless the trader is a bank). Loans to employees written off will be allowable deductions, as they will effectively be treated as additional pay on which the employee will be subject to tax under the employment income rules.
6.8 Accountancy Fees
Accountancy fees for the preparation of business accounts are allowable expenses. However, HMRC do not allow a deduction for the cost of preparing an individual’s personal tax return, this is not in the capacity of the trade but is personal capacity. Accountancy fees in dealing with a tax enquiry are usually disallowable. However, HMRC guidance says that if the enquiry relates specifically to trading income and no additional profits are brought into tax charge as a result of the enquiry and the enquiry is not a result of careless or deliberate behavior, any costs are allowed as a deduction for tax purposes.
6.9 Termination payments
Termination payments are made to staff on cessation of their employment contract. In a continuing trade, a full deduction for termination payments made to staff is given when the expenses are wholly and exclusively for all purposes of trade.
On cessation of trade, employment law may specifically require the employer to make redundancy payments, this means they can have a full deduction for statutory redundancy payments.
If the business wants to give more generous payments, a full deduction is limited to 3 times the statutory redundancy level. When a business is ceasing it can have a full deduction for 4 times the statutory redundancy amount.
6.10 Travel and subsistence
Costs of travelling from home to the normal place of work are not allowed as a deductible expense for self-employed individuals, they are not trade expenditure. The reimbursement of an employee’s home to work expenses will be an allowable expense (this will be a taxable benefit for the employee). Other business travel expenses are allowable. Subsistence costs are generally not allowable. As a general rule, expenses must be incurred in the process of making profits.
6.11 Training costs
The acquisition of new expertise is treated as capital, the costs are treated as an enduring benefit as they enable someone to create a new trade. Ongoing, update or development training once qualified will be allowed as a revenue expense because there is a direct link between the expense being incurred and income being received in that trade. Staff training costs are always allowable as a trading expense whether this is for the staff to acquire new expertise or simply to keep up to date.
6.12 Website Costs
The cost of setting up a website is treated as capital expenditure because the website will bring an enduring benefit to the trade. The regular costs of the website are likely to be revenue expenses and hence be allowable for tax purposes.
6.13 Premium on Leases
The grant of a lease by a landlord to a tenant for a period of 50 years or less is a short lease. On the grant of a short lease, part of the premium is charged under income tax. The formula to calculate the amount charged to income tax is:
Premium x (51 – length of lease) / 50
If the tenant is using the property for the purposes of his trade, he will be entitled to tax relief on part of the lease premium paid to the landlord. The part of the lease premium which is allowable for tax purposes in each accounting period is:
Allowable deduction for tenant = property income assessment on landlord / period of lease
The tenant receives tax relief over the life of the lease. Any rents paid by the tenant to the landlord for the duration of the lease are deductible using the accruals basis.
6.14 Fines and Penalties
HMRC do not normally allow fines and penalties to be disallowable. Parking fines or speeding fines will be disallowed under the dual-purpose principles (trader commits an offence in his personal capacity) or because it is not an expense in the court of earing profits.
If a business reimburses personal fines of an employee, the reimbursement will give a taxable benefit to the employee, the trader will receive a trading deduction.
6.15 Post-cessation receipts and expenses
Accounts are prepared on the accrual’s basis, so any post cessation receipts are normally accounted for in the final period of trading. If any income arises post-cessation, an income tax charge will arise when the income is received. Relief is available for any post-cessation expenses which
