Chapter 7 - Self Employment Income (Allowable vs Disallowable)

Question 1

Indication of Trading: Badges of Trade

Answer 1

Subject Matter - are the type of goods normally used for tradig?
Ownership - short period is likely to indicate trading
Frequency - frequent transactions by the same person indicate trading
Improvements, marketing - improving the goods to make them marketable indicates trading
Reason for sale - a forced sale to raise capital indicates NOT trading
Motive - intention for profit indicates trading

Finance - if took out a loan to buy asset, expecting to repay from proceeds of sale indicates trading
Acquisition method - if purchased rather than gift or inheritance, indicates trading
Similar Transactions - look at similar transactions, are they for trading?

Question 2

Adjusting accounting profit

Answer 2

Adjustments are made to the accounting profit to get tax adjusted trading profit.
Then capital allowances are removed
Accruals basis is used.
Starting point: Net profit per financial statements
Remove

Question 3

Pro Forma - Tax adjusted trading profit

Answer 3

Net profit per accounts X
Add:
Dis-allowable expenditure X
Expenditure not allowed for taxation purposes X
Expenditure allowable for taxation purposes 0
Taxable trading profit not credited in the accounts X

Less: Expenditure not charged in the accounts but allowable for taxation purposes X
Income included in the accounts that is not taxable as trading profit X
Capital allowances (see Chapter 8) X

–––
Tax adjusted trading profit X
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Question 4

Excessive salary paid to family

Answer 4

Must not be excessive, or it’s disallowed and added, only the excessive portion

Question 5

Interest payable

Answer 5

On borrowings: overdraft, credit card, hire purchase is allowable on an accruals basis
Unincorporated businesses: late payment interest, or capital gains tax, repayment from HMRC on interest not allowed - add

Question 6

Capital Expenditure

Answer 6

Expenditure on capital assets, e.g. depreciation, loss on sale, amortisation of a lease is disallowed
Improvements are allowed

Question 7

Car leasing

Answer 7

Allowable if CO2 emissions are 50g/km or less
If above 50g/km, 15% of the rental charges PA are disallowed

Question 8

Subscriptions and donations

Answer 8

Subscriptions allowable if made wholly and exclusively for trade
Donations must be: wholly and exclusively for trading, local and reasonable in size and made to a registered charity
Non-charitable gifts and donations to political parties, not allowed

Question 9

Entertaining and gifts

Answer 9

Entertainment - disallowed, exception is relating to employees and not for entertainment of others
Gifts to employees are allowables

Question 10

Gifts to customers

Answer 10

Allowable if:
Less than £50 per recipient,
Not food, drink, tobacco
If exceeds £50, fully disallowable
Contains conspicuous advertisement

Question 11

Legal and Professional charges

Answer 11

Allowable:
Legal fees chasing trading debts
Charges to defend the title of non-current assets
Obtaining long-term debt finance for sole traders
Patents
Renewing a short lease
Disallowable:
Fees acquiring new non-current assetes

Question 12

Impairment losses and allowances for trade receivables

Answer 12

Allowable:

Write off of a trade debt
Allowance for irrecoverable debt

Disallowable: write off of a non-trade debt

Question 13

Appropriations e.g. Personal Car, interest paid on capital, salary or drawings of a partner/sole trader

Answer 13

Disallowable

Question 14

Loans to customers and suppliers written off/recovered

Answer 14

Allowable - 0

Question 15

Goods for own use e.g. car

Answer 15

E.g. cost of the car £10k and current Market Value is £12.5k and no entries have been made apart from the original purchase

You’d add back the £12.5k assuming he hasn’t already removed the asset, if he has made adjustments, add the additional profit of £2.5k

Question 16

Leases

Answer 16

Add back: the amortisation charged in the P&L (disallowable)
Deduct: allowable expense portion of the lease premium e.g. P0.02(n-1)

To get annual amount divide that number by total number of lease years

Question 17

Use for home business

Answer 17

If one room out of 5 is usable, then 1/5 of everything applicable

Utilities and Mortgage? Allowable

Question 18

Pre-trading expenditure

Answer 18

Any incurred within seven years is to be assessed

Question 19

Decorating the home/shop

Answer 19

Decorating private flat - disallowable - add

Question 20

If cash basis is asked

Answer 20

Revenus is minus still receivable
It then becomes Less:
CoS (portion paid)
Personal expenses ignored
Depreciation is 0
Capital Expenditure is less in full
Car expenses in full
Other expenses - less anything paid
Add any private occupant adjustment

Question 21

Not taxable as trading income

Answer 21

Repayment of interest received on a tax repayment