Income Tax Flashcards
What are the two ways HMRC assesses & collects income tax?
1) Self Assessment
2) Deduction at source
Who calculates the tax bill in self assessment?
The individual themselves - not HMRC.
Does everyone have to complete a self-assessment tax return?
No - employed individuals with uncomplicated tax affairs aren’t required to complete a self assessment tax return because their tax is calculated via the PAYE system.
Examples of individuals who are always required to complete a self-assessment tax return?
- Directors
- High & additional rate taxpayers
- Self employed people
When is the deduction at source system used?
Where the payer of a taxable sum is is obliged to deduct tax& account for it to HMRC.
- the recipient of the taxable sum receives it ‘net of tax’
- one example is the PAYE system
Income Tax Calculation - step one
Calculate total income
Income Tax Calculation - step two
Deduct available tax reliefs (interest on qualifying loans and pension contributions) = net income
Income Tax Calculation - step three
Deduct personal allowance (reduced by £1 for every £2 of net income above £100,000) = taxable income
Income Tax Calculation - step four
Split the taxable income into non-savings, savings & dividend income
Income Tax Calculation - step five
Calculate whether the personal savings allowance (PSA) is available (ie. looking at the taxable income figure to see which income tax band it ends in)
Income Tax Calculation - step six
Apply relevant tax rates
Income Tax Calculation - step seven
Add together the amounts of tax calculated at step six = total tax liability
Total income
A taxpayers gross income from all sources.
Net income
Total income less available tax reliefs.
Taxable income
Net income less the personal allowances (if applicable).
Personal savings allowance
Interest received by the individual on savings is subject to income tax - but some taxpayers will have the benefit of a personal savings allowance.
How much are basic taxpayers entitled to?
They’re entitled to their first £1000 of interest received on savings a the savings nil rate
- the first £1000 of interest received on savings is taxed at 0%
How much are higher taxpayers entitled to?
They’re entitled to their first £500 of interest received on savings at the savings nil rate
- the first £500 of interest received on savings is taxed at 0%
Do additional rate taxpayers get the benefit of a personal savings allowance?
No
What do companies pay dividends to shareholders out of?
Profits that have already been charged to corporation tax
- to take account of this a dividend allowance was introduced.
What is the effect of the dividend allowance?
No individual pays any tax on the first £1000of dividend income they receive
(prior to 6 April 2023 the allowance was £2000).
Is the dividend allowance the same for all taxpayers, regardless of how much non-dividend income they receive?
Yes.
Who receives benefits in kind?
Many employees - in addition to the salary they’re paid in respect of their employment.
What does benefits in kind include?
- health insurance
- company cars
- gym membership
What system of tax are cash payments of salary (including bonuses) subject to?
Deduction of tax under PAYE.
Are benefits in kind subject to income tax?
Yes - but not generally subject to deduction of tax under PAYE.
How does income tax on benefits in kind work?
The employer must report the amount of benefit to HMRC as well as to the employee.
The employee then includes the benefit sums on their tax return if they complete one.
- such benefits must be included in the individual’s total income
What are the two tax reliefs looked at in this material?
1) Interest paid out on qualifying loans
2) Pension scheme contributions
How is interest paid out on qualifying loans different to interest received by the individual from a bank on savings held at the bank?
Interest paid out on qualifying loans is what an individual must PAY TO the bank as the cost of receiving certain qualifying loans from the bank.
How is interest on qualifying loans a form of tax relief?
Because it can be deducted from the total income to reduce the amount of income subject to tax thereby reducing the tax bill.
Where must the amount of interest paid on these loans be deducted from?
The taxpayer’s total income, in order to determine the taxpayer’s net income.
What does qualifying loans include?
- Loans to buy and interest in a partnership
- Loans to contribute capital or make a loan to a partnership
- Loans to buy shares in (or make a loan to) a ‘close’ company
- Loans to buy shares in an employee-controlled company or invest in a co-operative.
Do pension scheme contributions have the benefit of relief from income tax?
Yes, subject to certain limits.
(many individuals pay contributions into a pension scheme, either set up by their employer (occupational pension scheme) or a personal pension scheme).
How is relief on pension contributions given?
An amount equivalent to the pension scheme contributions made by a taxpayer during the tax year are deducted from their total income for that year (at the same stage as interest on qualifying loans).
Is there a limit to the amount an individual can pay into their pension scheme each year?
Yes
NOTE
- Most contributions made by an employer to an employee’s pension scheme will be exempt from income tax
- certain charitable donations are also eligible for tax relief
What is the personal allowance for the tax year 2023/24?
£12,750
(reduced by £1 for every £2 of net income above £100,000)
What’s the least an individual needs to be earning to lose the benefit of personal allowances?
Individuals with net come of £125,140 and above.
What is the formula to work out the reduced personal allowance for individuals with net income between £100,001 and £125,140?
£12,570 - ((net income - £100,000)/2) = reduced personal allowance.
What are the three different types of income?
- Non-savings
- Savings
- Dividend
Why is it critical for the different types of income to be separated at step four?
They must be taxed in the order of non-savings, savings, dividend income as different tax rates apply to each type of income.
Mnemonics for order of incomes taxed
Never Squash Donuts
Never Say Die
How is non-savings income calculated?
Deduct the savings and dividend income figures from the taxable income
(never go back to step one of calc to use total income figure as there may be some adjustments in steps two/three).
What’s the formula for non-savings income?
Taxable income less savings income less dividend income = non-savings income
How does PSA provide for tax relief?
By virtue of a nil rate (0% being applied to some of a person’s savings income)
If a taxpayers taxable income exceeds the higher rate band of £125,140 - what’s the ruling?
There is no savings nil rate at all.
Who does the nil rate apply to?
All individuals irrespective of the level of their taxable income.
When are savings rates applied?
After the personal savings allowance has been applied.
When are dividend rates applied?
After the nil rate has been applied to the first £1000 of the dividend income.
Check textbook for worked example on calculating tax
If the taxpayer is in employment with little other income during the relevant tax year, how will his tax be payed?
Most of the tax will have been paid already through the PAYE system.
How do individuals pay National Insurance Contributions (NIC)?
Out of employment income via the PAYE system.
(they don’t affect the individuals personal income tax computation).
How must income tax that remains to be paid, be settled?
Must be settled in each year by a final payment to HMRC.
What if the outstanding amount due to HMRC is fairly small?
It may be recovered by HMRC through an adjustment to the individuals PAYE tax code for the following tax year.
What if the taxpayer has overpaid tax?
The taxpayer will receive a tax refund from HMRC.
