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HMRC collects Income Tax and National Insurance contributions (NICs) from employees' pay as they earn it by using the Pay As You Earn (PAYE) system. Employers should deduct both income tax and NICs while paying employees' salaries under this system.
The two members of staff have different amounts of net pay which is the remaining amount after deductions from their salaries. Although the staffs' annual salaries are the same, there would be different amount of each tax reduction for each staff. Tax would be taken from pay before the staffs have their salaries and the deductions include donations through payroll giving scheme, income tax, employee's NI contribution, other deductions such as trade union subscriptions, or employee's pension contributions. Net pay is equal to gross pay minus all these deductions.
A tax code which is issued for each employee each tax year by HMRC shows how much the staffs may earn in the year before paying the income tax and it also consider different factors which may affect each staff's income tax liability. The staffs have different amounts of income tax because they may under varied personal allowances, tax relief such as payments deductible from total income, allowable expenses such as qualifying travel and subsistence expenses or other expenses that incurred in the performance of the performance of the employment's duties, benefits in kind, overpayment or underpayment of tax in previous years.
As a result, the staffs would have different amounts of net pay because of various tax reductions.
Value Added Tax (VAT) is an indirect tax that is charged during the production and distribution process. VAT was introduced in 1973 and it is administered by HM Revenue & Customs (HMRC) now. If a company provides taxable supplies, it should register for VAT with HMRC when taxable turnover for the previous 12 months exceeds or will exceed the registration threshold which is £68,000 from 1 May 2009. As all sales of the company are standard-rated, which means VAT is charged on the taxable supplies at the standard rate of 17.5%. The company should charge VAT to customers while making taxable supplies which can be goods or services. The output tax charged to customers must be accounted to HMRC and some or all input tax paid to suppliers can then be recovered.
HMRC specifies record-keeping requirements for the company. Some important records must be kept by the company such as business and accounting records which includes orders, delivery notes, bank statements etc, a VAT account, all tax invoices and their copies, documentation that is related to imports and exports etc. The company may also need to keep some additional records that are required by HMRC in order to avoid any unpaid VAT. All records must be kept for six years unless a shorter period is allowed by HMRC. About the powers of enquiry and inspection, HMRC requires the company to provide its VAT records for inspection and also inspects all these records at the business premises. To ensure the VAT returns' accuracy and the VAT system is being operated correctly, HMRC can visit the business premises of the company.
Moreover, HMRC could operate different fines under different situations such as criminal fraud, conduct involving dishonesty and incorrect VAT returns etc. For examples, if a person tries to evade VAT under criminal fraud, the person may be imprisoned for up to six months and may also need to pay a fine up to £5000 or 3 times the amount of tax evaded; a VAT assessment would be issued by HMRC if a person has failed to make a VAT return or has made an incorrect or incomplete return. If the person has behaved dishonestly or fraudulently, the time limit of VAT assessments will be extended to twenty years and there would be a fine of up to the exact amount of tax evaded.
To conclude, the company should charge VAT to customers while making taxable supplies and must account the output tax charged to customers to HMRC. There are different record-keeping requirements for the company by HMRC and HMRC could operate enquiry, inspection and fines.
Corporation tax is based on accounting periods which should be no more than 12 months. If a period for a company to prepare a set of account is longer than 12 months, this should be split into two or more accounting periods. Tax is charged on Profits Chargeable to Corporation Tax (PCTCT). Corporation tax financial years start from 1 April to 31 March while tax years for personal tax start from 6 April to 5 April. Corporation tax rates depend on which financial years that the accounting period based on and also depend on the size of the company's profits. Your company prepared accounts for 12 months to 31 October 2009, this period of account should be divided into two accounting periods-the 2 months to 31 December 2008 and the 10 months to 31 October 2009. The second accounting period of the company across 31 March, therefore the 12 months to 31 October 2009 are contained partly within FY2008 (5 months) and partly within FY2009 (7 months).
The company's income and gains for tax purposes as reported in the accounts can be classified into different schedules and cases now, each with its own rules. There are schedule A and schedule D with different cases. For examples, schedule A refers to income from land & property and schedule D Case I refers to trading income etc. To compute the tax charge, it is important for the company to calculate out the Profits Chargeable to Corporation Tax (PCTCT) first. PCTCT can be computed when the taxable sums under all schedules are added together. (See Figure 1)
Net profit is the actual profit of the company after deducting all expenditures from all incomes. Schedule D Case I is the first stage of the company to compute for PCTCT. It is about deducting any charges on income from income and gains. Items deducted from net profit per the accounts include items not taxable as trading income, for examples, rents received in schedule A, interest receivable in D case III and gains on asset disposal in chargeable gains. Chargeable gains which are also known as capital gains can be computed by deducting allowable costs and indexation allowance from net sale proceeds. There will be a net chargeable gain in PCTCT if total gains exceed total losses while there will be a nil chargeable gains in PCTCT if total gains are doesn't exceed total losses.
Trading incomes of a company is computed as a similar way to that of an individual and it comprises its trading profit for an accounting period. Pre-tax profit of the company for the relevant period of account should be computed first and then extracting non-trading income and adding back disallowable expenditure. Therefore, capital allowances which are treated as a trading expense can then be deducted in arriving at profit of D Case I.
About disallowable expenditure, it charged to and resulted in the Income Statement. Expenditure is not allowed for any tax purposes, so all disallowed expenses must be added back onto profit per the accounts to reach trading profit. There are different disallowed expenses such as capital-associated expenditure including professional fees that are in opposition to chargeable gains, any disposal profits or losses under capital gains legislation and depreciation which is replaced by capital allowances.
Capital allowances allow some of your company assets' cost to be cancelled against its taxable profits. Capital allowances are the tax substitute for depreciation and are available on different ways such as most plant and machinery costs which your company uses for your own business, certain building works and certain development and research. About computing the capital allowances of the plant and machinery, there should be no private use restrictions constructed. Moreover, there are different standardized rates of capital allowances which depend on the asset your company have purchased and sometimes investment are stimulated by increased rates. There are some new rules relating to capital allowances introduced recently such as that on motor cars which take effect from 1 April 2009 and also the annual rate of WDA for plant and machinery was reduced from 25% to 20% from 1 April 2008. And there would be deferred tax balance in balance sheet because of the differences between capital allowances and depreciation.
Since the net profit before tax for the year is £275,000, it is not the profit used to calculate the tax charge while PCTCT should be used. Therefore, we should work out the Corporation Tax Computation. As I mentioned before, the second accounting period of the company across 31 March, therefore the 12 months to 31 October 2009 are contained partly within FY2008 (5 months) and partly within FY2009 (7 months). The profits from 1 October 2008 to 31 March 2009 for FY 2008 should be equal to (PCTCT x 5/12) and the profits from 1 April 2009 to 31 October 2009 for FY 2009 should be equal to (PCTCT x 7/12). The profits should fall into different financial years. As we know the corporation tax rate is 28% currently, however, the rate for FY2008 should be different. Therefore, the tax charge would not be equal to £77000.