Chapter 7 - Trading profits - basis of assessment Flashcards
What is the tax year?
The tax year runs from 6 April to 5 April.
What is the fundamental issue facing sole traders and partners in a partnership regarding their personal tax returns and their businesses accounting periods?
Their tax return must be prepared for a tax year (6 April to 5 April), however their business accounting period may well have been prepared for a different period altogether.
How do we prepare sole trader and partners tax returns in relation to their businesses accounting period?
If the trader’s period of account aligns with the tax year, (ie. it has a 5 April year-end) then the assessable amount for the tax year will be the profits of the period of account.
Where the trader prepares their accounts for a period that does not align with the tax year, it is necessary to combine the profits of one or more periods of account. The profits are apportioned to tax years based on the number of days in the relevant periods (calculated using whole months in your exam).
How can we treat accounting periods that commence trading shortly before the beginning of the tax year (1 April)?
Where a trade starts shortly before the beginning of a new tax year (e.g. 1 April), these rules allow the profits to be calculated as if the trade started on 6 April.
How can we treat accounting periods that have close dates shortly before the end of the tax year (i.e. 31 March)?
Where accounts are prepared to a date shortly before the end of the tax year (e.g. 31 March), the late accounting date rules allow traders to calculate their assessable profits as if the accounting date were actually 5 April.
What is the assessable period for the tax year in which a person ceases to trade?
The assessable period for the tax year in which a person permanently ceases to trade begins on 6 April and ends with the date on which they cease.
What is a partnership?
A partnership is a collection of two or more individuals carrying on a business with a view to profit.
How are partners liable to income tax?
Each partner is liable to income tax on their share (and only their share) of the partnership’s taxable trading profits.
How do we allocate profit to each partner?
The taxable trading profits of the partnership are allocated between the partners according to the profit-sharing agreement for the period of account.
The agreement may specify that one or more of the partners is entitled to a “salary” (in fact, simply an allocation of profits) and/or interest on capital introduced into the partnership. These amounts should be allocated first and then the remaining amount of taxable trading profits should be allocated in accordance with the agreed profit-sharing ratio (PSR)
This profit will then be used in their own tax returns for their trading income
Outline how to allocate profit share in a partnership
1) Adjsut the profit to get the taxable trading profit
2) Allocate the ‘salaries’ expressed in the profit-sharing agreement to the respective partners
3) Split the remaining profit in line with the ratio provided in the profit-sharing agreement (i.e. 2:1)
4) Sum up the profit shares for each partner, this will be their taxable trading income
