Introduction to Income Tax

Question 1

What are some examples of income that is exempt from income tax?

Answer 1

• Income from ISAs (incl junior ISAs)
• interest from National Savings Certificates
• Winnings e.g., betting, lottery, premium bond
• Some social security benefits, e.g., housing benefit
• Scholarships
• Income tax repayment interest
• Apprenticeship bursaries paid to individuals leaving authority care
• Compensation made under qualifying payment schemes e.g. the Windrush compensation scheme

Question 2

Which types of income are received gross (in the exam)?

Answer 2

• Trading income
• Property income
• Interest income
• Dividend income

Question 3

How are salaries quoted in the exam?

Answer 3

Salaries are quoted gross in exam questions unless you are told otherwise. You will be given the amount of any tax deducted under PAYE

Question 4

What is net income?

Answer 4

Net income is the total of all chargeable income less reliefs. Net income is divided into three types of income: non-savings income, savings income, dividend income - these total together

Question 5

What is included in non-savings income?

Answer 5

Trading income
Employment income
Property income

Question 6

What is included in savings income?

Answer 6

Bank interest

Question 7

What is included in dividend income?

Answer 7

Dividends

Question 8

What is taxable income?

Answer 8

Taxable income is net income after the deduction of the tax-free personal allowance (PA). The PA is deducted in the order non-savings income, savings income, then dividend income

Question 9

What is the personal allowance for the tax year 2020/21?

Answer 9

£12,500

Question 10

What is PA available against?

Answer 10

PA is only available against income, not in the calculation of other taxes (e.g., capital gains tax)
It is available in full in the tax year of death/birth

Question 11

What is ANI?

Answer 11

Adjusted Net Income

Question 12

If ANI > £100,000 what happens?

Answer 12

The personal allowance is restricted by (ANI-100,000) x 0.5

If the resulting personal allowance is not a whole number, it should be rounded to the nearest pound

A taxpayer with income of 125,000 or more will therefore be entitled to no personal allowance at all, as the excess above 100,000 is twice the personal allowance

Question 13

When does the starting rate apply?

Answer 13

The starting rate of 0% only applies if savings income falls into the first £5,000 of taxable income. This £5,000 band may be reduced, or fully eliminated, by non-savings income since this is taxed before savings income. The starting rate band uses up part of the basic rate band

Question 14

What is the savings rate nil band?

Answer 14

A savings income nil rate band is available for taxpayers with taxable income below £150,000 whose savings income is not covered by the SRB

The savings rate nil band is £1,000 for basic rate taxpayers and £500 for higher rate taxpayers. Savings income covered by the nil rate band is taxed at 0% but uses up part of the basic or higher rate band

Question 15

The first £2,000 of dividend income for all taxpayers is taxed at what?

Answer 15

The first £2,000 of dividend income for all taxpayers is taxed at the dividend nil rate (0%), but uses the basic and higher rate bands. Any remaining dividend income is taxed at the standing rates

Question 16

How do you ensure employment income is not taxed twice?

Answer 16

To ensure employment income is not taxed twice, the PAYE deducted at source is deducted from the income tax liability to give income tax payable

If the income tax already paid exceeds the income tax liability, a repayment is generated

Question 17

How does gift aid work?

Answer 17

Gift aid is a tax efficient way of giving to charity:

• The donor gives a donation to charity and makes a Gift Aid declaration
• The amount paid to the charity is deemed to have been made net of 20% tax
• The individual is deemed to have paid 80% of the ultimate donation to the charity; the charity can claim the remaining 20% from HMRC

Question 18

How is gift aid tax obtained from basic rate taxpayers?

Answer 18

• Relief is given at time of donation by only giving 80% to the charity
• No adjustment is needed in the income tax computation as the appropriate amount of tax relief has been given at the source

Question 19

How is gift aid tax obtained from higher rate taxpayers?

Answer 19

• 20% tax relief is granted at the time the payment is made, as with basic rate taxpayers
• A maximum of 20% extra tax relief (40%-20%) is given by increasing the higher rate threshold by the gross amount of the gift; the total tax relief given is therefore 40%

Question 20

How is gift aid tax obtained from additional rate taxpayers?

Answer 20

• 20% tax relief is granted at the time the payment is made
• A maximum of 25% (45%-20%) extra tax relief is given by increasing the higher and additional rate thresholds by the gross amount of the gift; the total tax relief given is therefore 45%

Question 21

What is a trasnserrable marriage allowance?

Answer 21

A spouse or civil partner can transfer £1,250 of his or her personal allowance to his or her spouse/civil partner if the transferor has no tax liability (or will only be a basic rate taxpayer after the transfer), and the recipient is a basic rate taxpayer

The transferred allowance reduces the recipient’s income tax liability at the basic rate

The transferor must make an election

Question 22

How does HMRC issue a tax return?

Answer 22

HMRC automatically issues a return to those likely to need them: there is no need to complete a tax return if all tax is paid under PAYE and employees with other income (e.g. investment income) of less than or equal to £3,000 can choose to pay the additional tax via PAYE

Question 23

Who are short tax returns available to?

Answer 23

Short tax returns are available for employees (who are not directors), pensioners and traders with a turnover up to the VAT registration limit

Question 24

If an individual does not receive a tax return, what should they do?

Answer 24

If an individual does not receive a tax return then they must notify HMRC by 5 October following the end of the tax year (unless they have no need to complete the return). Failure to notify can lead to a penalty

Question 25

When is the tax liability calculated during a return?

Answer 25

The tax liability is calculated automatically when submitting an electronic return

On paper returns the taxpayer must calculate the tax or request HMRC to calculate the tax

Question 26

When is the due date for submission of tax return?

Answer 26

The due date for submission depends on whether the return is electronic or paper

Penalties can be levied if returns are submitted late

Question 27

Who can issue simple assessments?

Answer 27

Simple assessments can be issued by HMRC if they have enough information without the taxpayer submitting a return, as part of the move towards digital tax accounts

Question 28

How do HMRC amend tax returns?

Answer 28

HMRC may correct anything in the return that they consider is incorrect within nine months of the actual filing date

Question 29

When can the taxpayer amend their return?

Answer 29

The taxpayer may amend his or her tax return for any reason within 12 months after the later of 31 January following end of tax year or three months after the return was issued (electronic or paper)

Taxpayers can make a claim for ‘overpayment relief’ within four years of the end of the tax year to which the return relates

Question 30

Is repayment interest included in income tax?

Answer 30

Repayment interest is exempt from income tax

Question 31

How is interest paid to taxpayers by HMRC on the overpayment of income tax and penalties paid back?

Answer 31

Interest runs from the later of:

• the due date
• the date of actual payment

to the day before repayment

Question 32

What does the common penalty regime apply to?

Answer 32

The common penalty regime applies to errors, failure to notify and late filing of returns, although it is still being phased in for some taxes

Question 33

If an agent completes the return, who is responsible?

Answer 33

Where the taxpayer uses an agent (e.g. an accountant) to complete a return, the taxpayer remains responsible for ensuring that the return is correct

Question 34

When are penalties due?

Answer 34

Penalties are raised by an assessment sent by HMRC and are due within 30 days

Penalties can be suspended for up to two years to allow taxpayers to put things right e.g. improve their accounting records

A taxpayer can appeal against a penalty

Question 35

When are penalties charged?

Answer 35

A penalty may be charged when inaccuracies in a return lead to:

• understated tax
• excessive/false loss claim
• excessive/false tax repayment
• incorrect claims and reliefs

A penalty may also be charged if a taxpayer fails to advise HMRC of an incorrect assessment within 30 days of the issue of that assessment

Question 36

What are penalties based on?

Answer 36

Penalties are based on Potential Lost Revenue (PLR), which is basically the unpaid tax as a result of the error, and can be up to 100% of the PLR

Question 37

Can penalties be reduced?

Answer 37

Penalties can be reduced where disclosure is made by the taxpayer with a greater reduction for unprompted disclosure, ie., made at a time when there is no reason to suppose HMRC have discovered or are about to discover the error

Question 38

What does a reasonable excuse include?

Answer 38

A reasonable excuse is an issue that prevents the taxpayer from meeting an obligation despite having taken reasonable care to comply:

• the death of a close relative of the taxpayer shortly before the due date
• the taxpayer being required to have an unexpected stay in hospital
• the taxpayer having a serious life-threatening illness
• delays relating to a disability of the taxpayer
• computer or software failure while preparing an online return
• service issues with HMRC’s online services
• fire, flood, theft and postal delays

A lack of funds to pay the tax is not a reasonable excuse

Question 39

What does the common penalty regime for late filing of tax apply to?

Answer 39

The common penalty regime for late filing of tax returns currently only applies to:

• income tax: personal tax return, partnership tax return
• capital gains tax - personal tax return