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Basis Period & Overlap Profit and relief
At the end of James Fish's sole trading business, taxes may be deducted based on basis period and overlap relief under United Kingdom tax law. The tax law stated that a sole trader chooses their accounting date freely; further, basis period of business owner's account is not necessarily 12 months long. However, the given scenario states the cessation date of James Fish's sole trading is 30th of April; therefore, James Fish's accounting date is 1st of May to 30th of April. Therefore, there should be an overlap profit. In this case, James Fish will cease his sole trading business, while he can get tax deduction via allowable overlap profit, therefore he needs to calculate the overlap profit, and he can use the overlap profit for deducing his chargeable balance under the section 220 at the cessation of business.
James Fish used to pay the class 2 and class 4 of national insurance contributions, because he was under self-employment. The class 2 NICs require £2.40 per week, and it should be paid based on 53 week for year. Further, the class 4 calculated based on annual earnings, if earnings are less than £5,715; then there is no liability. However it is above £5,715 and less than £43,875, then the charge is 8% of annual income. Beyond £43,875 per annum, the class 4 will charge at one per cent. Furthermore, James Fish could claim for Class 2 NICs, if his earnings undergone less than small earnings exception limit. However, the claim has to be submitted between 6th April to 31th January of following the end of the tax year in which the payments were made; moreover, the evidence of earnings in the tax year requires with the claim. Furthermore, James Fish needs to notice that he ceased sole trading to the Inland Revenue, in order to stop paying his national insurance class 2 and 4.
Disposal of Assets
The given scenario stated James Fish has a car, but it is owned by James, therefore there is no tangible asset can sell this stage. However, if there is an intangible asset such a goodwill (for example, trademark, copyright, reputation, and trade secret); then James Fish have an opportunity to do disposal of asset. If James trades the goodwill, and the transaction made a profit or loss; then he have to pay capital gains tax. However, there is an annual exempt amount for individuals, which is £10,100 for 2009-10 and 2010-11. If above an annual exempt amount, then he does need to pay for capital gains tax at eight-teen per cents. Further, if James made any losses, then he can claim with a self-assessment tax return form including losses on the capital gains tax page.
Generally capital gains tax charges a liability at eight-teen per cents to person who made a profit from disposal of a business asset with exceeding threshold; however, there is entrepreneurs' relief which is available in respects of:
gains made on the selling of all or part of a business
gains made on disposals of an asset following the cessation of a business
gains made by specific persons who were involved in managing the company
Further, there is amount limitation of £ 1 million. If the gains are less than a million pound, then the tax will charge at ten per cents rate. Otherwise, the HM Revenue and Custom will charge at eight-teen per cents. Moreover, it will be mentioned in Question 3 again.
At the cessation of business, James Fish must clarify the business debt such as bank overdraft, term loan, bills, project financed. Even though, he had stable profit, he might get loan for expanding or upgrading for the company. Thereby, if James Fish has a debt during sole trading business term; then all debts have to be paid off before the cessation of trade. Otherwise, James Fish will liable for the debt as his private expense which has no tax deduction for the interest. Further, there is no trading loss information given on the scenario; however, if there is trading loss, he can claim for trading loss relief.
Post Cessation Trade Relief
In general, post cessation expenses are not relieved at the final accounts of a business; further, it will be taxed as trading income. Therefore, there is section 96 of Income Tax Act 2007. If James Fish cannot absorb a post cessation expense such as cessation expense receipt; then he can claim for relief; although this relief will not cover all post cessation expense. The cost of remedying defective works may be relieved by this relief such as business associated legal cost and insurance premiums, and bad debts and its collection costs. If James Fish has insufficient to solve above matters, then he is eligible for relief in that year. Moreover, expenses deserved after seven years will not eligible for this relief.
Registration of Limited Company
In order to be a limited company, new company required registering by submitting CT41G form in the company houses; thereby, the company can prove its existence. A limited company obligated to file necessary documents that make sure the company is registered on a going concern basis. During the James Fish turns to a limited company, he should inform to Her Majesty's Revenue and Customs that the company tax returned on time.
Classification of P11D employee
P11D employees are quite different as lower-paid employees. Those employees who earn at least £8,500 per annum and most company directors; however who earn less then £8,500 and control fewer than 5% of the company's share capital, then they are exempted for P11D. In James Fish's case, he has a duty to submit a form P11D to HM Revenue and Customs, due to getting an advantage of benefits in kind and any reimbursed expenses.
Benefit in Kind
There are many ways to save his personal expenses under benefit in kinds, compare to a sole trading business. Firstly, if he would like to take advantages of benefit in kind, he has to register P11D as explained above. Benefit in kind includes many tax free advantages which can be received as a director of the company such as mobile phone, PDA, computer, bicycle, refreshments, medical and optical check-ups, pool car, van for commuting, personal number plate, lunch at work, subsistence costs when travelling on business, annual parties and functions 'trivial' gifts, round sum overnight allowances, free vehicle parking at work, interest-free borrowing in the form of loans of up to £5,000, employer contributions to company or employee's own pension scheme, recreational benefits, up to £55 per week in childcare vouchers, or a workplace nursery, training and course fees, and £3 per week for homeworking. (See. Appendix D)
Pay as you earned (PAYE)
There is pay as you earned (PAYE) regime for sole director which applies with special rules for P11D. The P11D PAYE regime gives special benefits which discussed above. Under the PAYE system, employer deducts both income tax and NICs from the employee when paying his/her wages and salaries. The amount got from employee and employer's secondary national insurance contribution has to be paid off to HM Revenue & Custom within 14 days of the end of the tax month. Moreover, the PAYE system covers broad benefits for example, payments taking the form of assets which refer to approved share scheme, remuneration schemes. Besides, there are tax codes which are basis of the PAYE system. The tax codes are given by HM Revenue and Customs for each employee each tax year based on the employee's earnings. The tax codes take into account a number of factors which gives affection to the employee's income tax liability. The affection of tax codes are occurring in following areas: personal allowances of employee, employee's entitled tax relief, allowable expenses of employee, benefits in kind, and tax overpaid or underpaid relief.
Value Added Tax Transfer
James Fish had used his old VAT number as sole trader; further he would like to retain his VAT number with starting of new limited company. In order to carry forward value added tax from sole trader to new limited company, James Fish should fill out the section 1 and 68 of value added tax forms to the HM Revenue & Custom. Furthermore, Value added tax is an indirect tax which is applied to person who makes taxable good charged on a large variety of good and service serving. However, the goods or service supplier do not pay VAT, it is paying by customer who bought a goods or service. VAT applied different rate on registered and unregistered traders; however, James Fish is registered trader, and his business is service supplier; and then the given scenario described that he does not exceed threshold (which is £70,000); thereby, the standard rate of 17.5 per cents (twenty per cents in 2011) charge on every single activity.
New National Insurance
Furthermore, as new director of the company, James Fish has to inform that he had become a new director of company to HM Revenue & Custom. Moreover, this paper gave an assumption that James Fish didn't contract out with new limited company. Therefore, if he doesn't exceed primary threshold which is £5,716 per annum, then he does not need to pay any NICs. However, if he exceeds the primary threshold, then he required to pay at 11 per cents on his earnings, further it the same rate applies up to £43,875. However, if James's annual earnings exceed the £43,875; then the NICs for directors will be generally payable at 1% on his earnings. Moreover, James became a sole director of new limited company as well; therefore he does need to prepare NICs Class 1A. The Class 1A of NICs is generally paid by employer. For the year 2010-11, NICs Class 1A will calculates as 12.8% of the benefit in kind which assessed on the employee for income tax purposes.
When a business incorporates to Limited Liability Company; then the company normally transfers business assets (such as equipment, furniture, real estate, inventory, accounts receivables, and etc.) to new company. According to the given scenario, James Fish do not have any tangible business asset, therefore, the only thing can concern is intangible assets such as trademark, copyright, or trade secret. Ordinarily, he is liable for capital gains tax which charges based on the amount of maximum basic rate band of £37,400; if James Fish does not reach the limitation, then he will be charged at 18 per cent of capital gains tax; however, any remaining basic rate band first against gains can be qualified by Entrepreneurs' Relief; in case the Her Majesty's Revenue & Custom will charge the tax at 10 per cents. Further, if James Fish's capital gains exceed the maximum basic rate band; then HMRC will charge the tax at 28 per cents. However, the following reliefs will give advantages of transferring business ownership.
As we discussed in Question 1, when he transfer his business assets, he generally pay the capital gains tax at eight-teen per cents rate; however, James Fish can claim entrepreneur's relief up to £5 million. James Fish satisfied the following certain conditions which required by capital gains tax law.
Disposal of the whole or part of a business carried by James Fish
Disposal of the business assets after cessation of trade
Disposal of James Fish's personal trading company
As he satisfied above conditions, he can claim the entrepreneurs' relief at 10 per cents. However, there is the lifetime limit which gives restriction on more than one claim. Once James claim for the entrepreneurs' relief, no more relieves are allowed.
As James Fish incorporated his business by transferring the business assets to a new limited company; as well as he had disposed of the assets for its market value. He is eligible to get incorporation relief under section 162 of Chargeable Gains Act 1992. This relief does not require a claim, and the relief applies and considers under following conditions:
James Fish's sole trading business is together with the whole of its assets (or all its assets other than cash) is transferred.
The business is transferred as a going concern.
The business is transferred in exchange wholly or partly for shares in the new limited company.
The relief works by reducing the base cost of the new assets by a proportion of the gain arising from the disposal of the old assets
However, it can possibly bring negative effect, if he is not fully satisfying above condition; whereas, a business has right to elect that section 162 shall not apply by writing a letter to HM Revenue & Custom before the relevant date.
Gift Hold-over Relief
This relief is relevant if James gives away a business asset, all or part of his gain may be postponed until the new limited company sold or disposed the assets. Further, James possibly can dispose of the asset for less than its full value; it still gives a gift hold over relief. However, gift hold-over relief requires a certain condition that the relevant asset for gift hold-over relief must be used in James's business or profession carried on by James himself, or his sole-trading company. Moreover, James may still be able to postpone part of the gain if he receives something for the asset; however he must work out the tax due on remained gain in the future. Finally, James and the new limited company must take a formal claim for gift hold-over relief.
This paper provided the calculation for taking salary from new limited company as good proportioned and full amount of director's salary; moreover sole trader's salary calculation provided for helping understand for advantage comparison. (See. Appendix A, B, and C)
As shown in the three appendixes A, B, and C, the basic salary plus rest amounts take as dividends (See. Appendix B) made the best rate which is 25.41 per cents; because it makes to pay at the lowest rate of income tax. Further, the dividends calculated at 10 per cents as lower than upper rate threshold of £112,600. A shown in the appendix B, if James takes all the net profit which is £34,241.85 as dividends from the company, then he just paid £3,424.19 for the tax. However, if the rest amount of £34,241.85 taken as income tax, then he needs to pay the tax at 20 per cents which will be taxed for £6,848.37. Therefore, the dividends can save big money.
Further, national insurance contribution can be paid at lowest level of threshold, and it is calculated based on salary, whereas the national insurance contributions can be is lower and indeed. For the comparison of when James was sole trader of the company, and director of company with applying tax minimization as described on appendix A and B. James paid £ 3238.85 for NICs class 2 and 4; on the other hand, he can minimised the NICs Class 1 A and Class 1 for director as £180.88. Therefore, he can save £3057.97 for national insurance payments via incorporation.
However, if James does not manage the proportion of salary like appendix C described. Although James may still save income tax, but national insurance contribution will require big amount, because of his salary. Therefore, he will pay even more than as a sole trader's income tax and national insurance. Thereby, it is very important to manage wisely without against tax law.
Therefore, the proportion is very important, and James also saves national insurance contributions by dividing salary and dividends. Further, incorporation is much better than sole trading business as income tax purpose, but still need to care about national insurance contributions though.
The given scenario does not provided enough information such as company's mileage allowances for business mileage; Private and business fuel costs for petrol and diesel engines; MPG figures; Engine sizes; Indicative insurance costs; Vehicle Excise Duty costs; and Fixed price maintenance. Therefore, there is no actual answer; however, if James Fish uses the car a lot on private usage, then the answer will be better to owned by James. Moreover, the car usage claim to the company is inter-related to James's personal salary, because he is sole-director, and he will take all the money from the profit, therefore it is very hard to say whether business car usage will be better or not. Furthermore, this paper will illustrate general points on personal car for business use only and company car for business use only, along with relevant allowances and reliefs.
Personal car for business uses
Firstly, if James Fish keeps the car, then he uses the car as business usage, he is eligible to claim for approved mileage allowance. It gives tax free benefit on James Fish; however, the approved mileage allowance has certain limitation; thereby, James Fish must be aware of the limitation. The mileage allowance gives tax free rate which is 40p per mile for the first 10,000 business miles in a fiscal year, and 25p per mile after exceed of threshold limitation.
Moreover, James's new limited company based in his house; therefore, he can claim the expenses for travel between home and work as business. Ordinarily, it is disallowable expenditure, but it can be allowable if the travel and subsistence costs incurred by a site based employee when travelling home to the site, or employees who have a normal place of work, when undertaking business journeys which start from home.
Furthermore, James should pay insurance, road-tax, depreciation of the car, and even if there is any problem on the car, he cannot claim unless he has clear evidence. Therefore, personal car for business uses still gives mileage allowance, though it still not covers entire part of the car.
Company car for business uses
Secondarily, if the company owns the car, then the company will pay for the car usage for business uses including insurance, road tax, car depreciation, and other expenses, except customization on the car for convenience of James. Furthermore, if new business obtains the car from James; then the company needs to pay for the car, because it was not James's sole trading business assets, it was James's personal car. The car price should consider as market price; however, new company can use capital allowances on buying the car from James Fish under main pool or special rate pool which are giving tax benefit based on car emission rate. If the car emissions is less than 110g per kilo meter; then the car fully claim enhancement of first year allowance under section 45D.
As above results, the car may be better to own by new company, due to taking tax benefit for business car for business usage with taking advantage of insurance and maintenance, unless he makes careless mistake. Further, it is not tax efficient to provide fuel for private use generally. Thus, if there is special contract or James Fish uses much on private car usage; then James may better to use reimbursing system of the company by using mileage allowances. Moreover, low emission car can be a tax break for family members on the payroll. Therefore, if he has a family; then he does need to consider about it.