Simpler income tax system for the simplest small businesses
From the 2013/14 tax year, self employed individuals or partnerships carrying on the smallest trading businesses will be able to choose to be taxed on the basis of cash receipts less cash payments. All unincorporated businesses will be able to use simpler rules for some business expenses. Will this result in administrative saving for business or will many calculate on both cash and accruals bases to see if they benefit?
This scheme is optional for small unincorporated businesses that are not excluded for the reasons stated below.
Section 31C provides the rules by which persons are excluded from using the cash basis. The ‘excluded persons’ are companies, limited liability partnerships, Lloyd’s underwriters, businesses with a current herd basis election and persons with a section 221 ITTOIA profit averaging election.
Section 148K provides that the rules concerning the tax treatment of some specific trades are also disapplied. These are dealers in securities, relief for mineral royalties, lease premiums, ministers of religion, pool betting duty, intermediaries treated as making employment payments, managed service companies, waste disposal and cemeteries and crematoria.
The size condition needs to apply. This is that the aggregate of cash basis receipts of each business carried on by the person in the tax year does not exceed any applicable relevant maximum.
The Finance Bill 2013 inserts into Income Tax (Trading and other Income) Act 2005. Section 31B Relevant maximum. Subsection 5 states:
“ If there is a relevant maximum applicable for a tax year, the amount
of the relevant maximum is:
(a) the VAT threshold, or
(b) in the case where the person is an individual who is a universal credit claimant in the tax year, an amount equal to twice the VAT threshold.”
The conditions are that a businesses can enter the cash basis if their receipts for the year are less than the amount of the VAT registration threshold (currently £77,000) or twice that (currently £154,000) for recipients of Universal Credit. Businesses must leave the cash basis after their receipts exceed twice the amount of the VAT registration threshold (currently £154,000)
The guidance states that a key principle is that businesses will be “able to make their books up to any date between 31 March and 30 April. (This will enable Universal Credit recipients to use the same day of the month as the end of their income assessment period for UC).” It goes on to state “sections 220A-K provide that businesses will be able to choose to make up their books to a chosen date. Section 220A (4) defines this date as any date between 31 March in the tax year and 30 April immediately following the tax year. It will not be necessary to use the same date each year.”
The basis for the records is simple, being the cash flow basis. Receipts will include all amounts received in connection with the business including those from the disposal of non-durable assets and VAT refunds. Allowable expenditure includes payments which are paid wholly and exclusively for the purposes of the trade, including for non-durable assets and payments of VAT but excluding business entertaining and purchase of property or other “investment” assets.
There are a number of conditions that will need to be considered by potential users. These include:
• The treatment of certain expenditure. For example, Interest payments are only allowed up to a limit of £500 but it is not a condition of this deduction that the interest is wholly and exclusively for business purposes.
• Business losses may be carried forward to set against the profits of future years but not carried back or set off ‘sideways’ against other sources of income.
• The transitional rules on entering or leaving the cash basis.
The key principle is that expenses are allowable when they are paid. However, this is subject to a number of specific rules and exceptions:
• Motoring expenses for cars and motor cycles must be calculated using the simplified expense mileage rates. The car rate may be used for goods vehicles, such as vans.
• There is a suggested formula for use of house.
• Interest on cash borrowing is only allowable up to £500. It is not necessary to establish that the borrowing is financing capital employed in the business (as it is not a condition of this deduction that the interest is wholly and exclusively for business purposes).
• Expenses are inclusive of VAT and include payments of VAT.
• Capital expenditure not allowed includes expenditure on land, cars and motorcycles. Capital expenditure not falling within the disallowed categories specified in section 33A is allowable as an expense in computing taxable income under the cash basis.
These include the usual transitional adjustment rule that income can be spread over the following 6 tax years when leaving the cash basis.