Income Tax

Question 1

What is income tax and who pays it?

Answer 1

It is the tax paid by individuals (residents for tax in the UK) on taxable income paid in the tax year.

Question 2

Why is it important to determine the residence of a taxpayer?

Answer 2

A taxpayer’s liability to income tax, CGT and IHT is based upon their residence.

A UK resident will be liable to income tax on worldwide income while a non-UK resident will be liable on only UK income.

Therefore, it is essential to be able to determine the residence of a taxpayer to determine their UK tax liability.

Question 3

The rules regarding determining whether an individual is UK or Not UK resident are based on/determined by what?

Answer 3

The rules are based on the number of days that an individual spends in the UK.

Question 4

What are the 3 steps in determining whether someone is UK resident or not UK resident?

Answer 4

Step 1: Does the individual satisfy any of the automatic overseas tests? (If YES, automatically NOT UK resident, if NO, move on to step 2).

Step 2: Does the individual satisfy any of the automatic UK tests? (If YES, automatically UK resident, if NO, move on to step 3).

Step 3: Does the individual satisfy the Sufficient Ties test? (If YES, automatically UK resident, if NO, automatically NOT UK resident).

Question 5

Explain the Automatic Tests.

Answer 5

Step 1: Automatic Overseas Tests. Individual is in the UK in the tax year for less than:

1) 16 days or
2) 46 days and not UK resident for any of the last 3 years or
3) 91 days and works full time overseas.

(If YES, then NOT UK resident, if NO, then Step 2).

Step 2: Automatic UK Tests.

1) He/She spends at least 183 days in the UK in the tax year or
2) His/Her only home is in the UK or
3) He/She works full time in the UK.

(If YES, then UK resident, if NO, then Step 3).

Question 6

Explain the Sufficient Ties Tests.

Answer 6

Step 3: Does the individual satisfy the sufficient ties test? If YES, then automatically UK resident, if NO, then automatically NOT UK resident.

5 UK ties:

1) Family Tie: has a spouse/civil partner or minor child nder the age of 18 in the UK.

2) Accommodation Tie: has accommodation in the UK which is made use of during the year. (used by you, not rented).

3) Work Tie: does substantive work in the UK. (substantive work = 40 days of more than 3 hours in the tax year)

4) Days in the Past Tie: spent more than 90 days in the UK in either or both of the previous 2 tax years.

5) Country Tie: spends more time in the UK than in any other country in the tax year. (this country tie is only applicable if a person has been a resident in the UK in any of the 3 previous tax years).

Question 7

How many of the conditions of the sufficient ties test does a person need to pass in order to be considered UK or Not UK resident?

Answer 7

It depends on the table (which will be given in the exam).

It also depends on whether you’re an arriver (previously not Uk resident) or a leaver (previously UK resident) and also depends on the number of days you spend in the UK.

Question 8

When counting the number of days to determine whether someone is UK or not UK resident, should the first day and the day of departure also be included/counted?

Answer 8

Yes. Both the first day and the day of departure should be counted.

Question 9

What is taxable income?

Answer 9

It is income on which income tax is payable.

Question 10

How is income tax calculated?

Answer 10

It is calculated separately for each year by preparing the income tax computation.

Question 11

What are benefits in kind (BIK)?

Answer 11

These are non cash benefits given to you by a company. Eg: Cars, mobile phones, laptops, a flat, etc that are taxable.

Question 12

Do you pay tax on the cost figure of the BIK that a company gives you?

Answer 12

No. The cost of the BIK figure is not the figure on which you pay tax. You’re going to apply certain rules to convert the value of the asset into a tax value. That tax value is then added to other taxable income (the salaries and bonuses for eg).

Question 13

Is the income earned from being self employed taxable? If so, which type of tax do you pay on this income?

Answer 13

Yes it is taxable. It is a personal tax, not a corporation tax, as when you are self employed, you and your business are regarded as a single entity.

Question 14

From a tax POV, would you want your profits to be as high as possible or as low as possible.

Answer 14

You want to keep your profits as low as possible.

Question 15

Is depreciation allowed in taxation?

Answer 15

No, it is not. From a tax POV you want to keep you profits as low as possible and one way to do that is through legally increasing your expenses (such as increasing the rate of depreciation). That’s what you’d think but bad news for you, depreciation is not allowed in taxation.

Question 16

Are profits on a trade in the P and L account taxable?

Answer 16

Once you’ve applied the tax rules on the P&L profit then that figure is the figure on which you pay tax. You call that profit “trading profit”.

Question 17

Give examples of other types of income that are subject to income tax.

Answer 17

1 - Employment income
2 - Self employment (trade income)
3 - Rental/Property income
4 - Pension income
5 - Interest received
6 - Dividend received

Question 18

What are the 3 most important types of income?

Answer 18

Employment income, trading profit and rental/property income since usually there is a separate working required for them.

Question 19

What are some vital points to keep in mind while calculating the income tax payable?

Answer 19

• You must apply the income tax rates on the taxable income in order to calculate the income tax payable. (the income tax rates will be given in the exam).
• To calculate the income tax payable correctly, you must split the taxable income into a maximum of 3 categories as each category could attract a different rate of income tax based on the cumulative totals.
• In order to calculate the income tax and the income tax payable/liability, you must prepare an income tax computation for each individual and every tax year.

Question 20

What are the 3 categories in the income tax computation?

Answer 20

1 - Non-Savings Income (NSI)
2 - Savings Income (SI)
3 - Dividend Income (DI)

Question 21

In what order do the 3 categories use up the tax bands?

Answer 21

NSI, then SI, then DI.

Question 22

What is the NSI category made up of?

Answer 22

1 - Employment Income
2 - Trade Income
3 - Property Income
4 - Pension Income.

Question 23

What are tax bands?

Answer 23

In the UK, you have 3 tax bands that you are taxed in accordance with.
As you move into different bands, the tax rates change. The higher your income the greater your tax rates.
There is no fixed rate, the rate varies.
1) Basic rate: 20%
2) Higher rate: 40%
3) Additional rate: 45%

Question 24

What is the SI category made up of?

Answer 24

Interest received.

Question 25

Explain the savings income nil rate band in the tax band table.

Answer 25

The SI nil rate band relates to interest income.
If you’re a basic rate tax payer, meaning your total taxable income does not exceed $37,’700, the first $1000 of your savings income won’t be subject to tax.
If you’re a higher rate tax payer, which means that your total taxable income is between $37,701 and $150,000, then the first $500 of your savings income will not be subject to tax.
If you’re an additional rate tax payer, your savings income is taxable because it is assumed that you can afford to pay tax.

Question 26

What is the DI category made up of?

Answer 26

It is made up of the dividends received.

Question 27

Why are the DI rates much lower than the normal rates?

Answer 27

Because according to the government you’re doing a good deed. What good deed? You’re investing in their country. How? You’re investing in the shares of companies in return for dividends. Since you’re investing in these companies the government goes a little easy on you by rewarding you with lower tax rates on your dividends.

Question 28

Explain the dividend nil rate band.

Answer 28

The Dividend nil rate tax band says that regardless of the type of taxpayer you are (basic, higher, additional), the first $2000 of the dividend income you receive is not subject to tax. (0%)

Question 29

“All items in the income tax computation must be included GROSS”. Explain.

Answer 29

For eg, let’s take salary as our income item. Any tax that you’ve paid on your salary is assumed as if you haven’t paid it. You include the gross figure and then you calculate the tax on that gross figure.

Question 30

Salary is received net of income tax called PAYE. Explain.

Answer 30

Salary is received net of income tax called PAYE (Pay as you earn).
Net of income tax meaning after income tax has already been deducted/accounted for.
PAYE is only applicable if you are an employee.

Question 31

When is the personal allowance reduced to 0?

Answer 31

Where adjusted net income is 125,140 or more, the personal allowance is reduced to 0.

Question 32

Summarise the steps of calculating the taxable income.

Answer 32

While calculating the income tax payable you first find your taxable income.
You add the NSI, SI and DI which gives you your total income.
Then you deduct your personal allowance.
After you have deducted your personal allowance from your total income, you will then be left with your taxable income.

Question 33

What is the order in which PAYE is accounted for?

Answer 33

It is accounted for in the following order:
1- NSI
2- SI
3- DI

Question 34

What is tax credit applied on?

Answer 34

It is applied on employment income.

Question 35

What are the 6 stages you go through while creating your income tax computation?

Answer 35

1- Get your total income figures (all workings).
2- Always deduct your personal allowance.
3- Get your taxable income figure (apply tax rates)
4- Get your tax liability (NSI, SI and DI are accounted for here).
5- Deduct your tax credit (PAYE)
6- Get your tax payable figure.