H.M. Treasury has committed to spending £330bn in supporting all those trying to survive in these very difficult times, but what can the self-employed individual or director of an owner managed company do now to maximise their cashflow; and defer any tax payments.
Below, I briefly summarise a few tips and pitfalls to watch out for, to help save tax, defer your tax liabilities and hence boost cash reserves.
In times of crisis cash is king!
All director/shareholders should be using the £2,000 tax free allowance for dividends. If you don’t use it, you lose it.
It is also important to carefully work out the tax rate applicable to any dividend income, before it is paid. If you are a basic rate taxpayer, the rate is currently 7.5%. However, if you fall into the higher rate bracket, the tax rate is 32.5%, and when you consider the corporation tax, the effective tax rate is 45%.
Many businesses will make losses in the 2020, so it is also important to keep an eye on distributable reserves. Dividends can only be paid out of available reserves i.e. accumulated profits.
Don’t forget any dividends paid, can always be loaned back to the company if needed, and you can charge the company a commercial rate of interest on this loan. This is a good way of extracting income out of the company, national insurance free.
HMRC form CT61 will need to be completed to pay across the basic rate tax on any interest paid. The company will obtain tax relief for any payment.
Borrow from the company
Loans from companies are fine, so long as they are short-term.
If the loan is outstanding 9 months after the financial year end, then a section 455 corporation tax charge will be due on the outstanding amount at 32.5%. Expensive!
However, this tax is repayable, but only 9 months after the financial year in which the loan is repaid.
Any loan received will also be subject to the benefit in kind income tax rules. There is a 2.25% interest charge on the loan provided, on which income tax is charged. To avoid this, you can simply pay interest to the company at 2.25%.
Employ your children
Easter holidays are here and summer holidays are just around the corner.
It is important to note that it is illegal to employ a child under 13 years or age in any capacity. There are exceptions for TV work, modelling etc.
However, any child between the ages of 13-16 can earn £12,500 per annum and not suffer any income tax or national insurance.
Children aged 16-20 will pay employees national insurance only at 12% above £9,500 per annum. Payment of £12,500 per annum will result in a £360 tax charge.
There is no employer’s national insurance below £50,000 per annum, but it is important to note that any pay must be commensurate with any duties carried out.
Don’t forget the reporting requirements under the PAYE real time information regulations.
Working from home – Self-Employed
Now, more than ever, people will be working from home. For many self-employed individuals, claiming ‘Use of Home’ costs are normal.
It is normal to claim a percentage of costs estimated based on the area used in the home. So, if a house has 5 rooms, and one is used as an office, you claim 1/5th or 20% of applicable costs.
It is normal to claim against the following types of costs:
Light and heating;
Rent or mortgage interest; and
Repair and maintenance.
Capital allowances are also available on equipment, furniture etc.
A word of warning – if part of the house is used exclusively for business purposes, there could be a restriction for capital gains tax main residence relief, when you come to sell your home.
An alternative to claiming a % of costs would be to claim the flat rate allowance available.
< 50 hours £10 per month
51 – 100 hours £18 per month
101 > hours £26 per month
The above amounts do not include any costs for telephone, internet etc.
Working from home – Directors/Employees
The rules are much stricter for directors and employees.
To claim anything, you must be required, to work from home. You cannot just choose.
Only light and heat and telephone/internet can be claimed.
Another option would be to charge a commercial rent to the company by granting a ‘non-exclusive licence to occupy a room’. A licence of this type would preserve the main residence capital gain tax exemption.
Year End Date
Many self-employed businesses have their year-end date either 31 March or 5th April, to match the tax year. Whilst this makes the accounting simpler, it does mean that any tax on profits is payable next 31 January after the tax year i.e. 9 months after the year end.
For example: year-end of 31st March 2020, tax payable on 31st January 2021.
If you were to change the year end date to 30th April 2020, this would fall into the 20/21 tax year and so any tax would be payable 31st January 2022 i.e. 22 months after the year end.
This simple change defers any tax payable and is simple to do.
Payments on Account
Many of us will have reduced income in the 2020 year, so now is a good time to review any payments on account, which could potentially be reduced with HMRC.
It is important to make a best estimate of any reduction, to avoid triggering interest payment on underpayments.
Many businesses will also be looking at recording losses in the 2020/21 tax year, and so these losses should be included in the 2019/20 tax return to reduce profits.
To avoid HMRC issuing penalties, it is important that these losses are reasonably estimated.
Provisions should be made in the accounting records for any ‘specific’ bad debts that the business may incur. The provision needs to be specific to get tax relief.
If a bad debt provided for is later repaid in full, then the provision is simply reversed in the accounting period it is received.
If you are a business it might be a good time to incorporate, with property prices being low now.
Incorporation relief exemption from capital gain tax is available on such a transfer for:
A Property lettings businesses > 20 hours a week managing the business.
Trading and furnished holiday letting businesses can claim holdover relief.
Stamp duty land tax will be payable on any transfer of property, unless you are a partnership, where there are special rules.
This is an option that should be explored, along with the limited liability a company would provide. Self-employed individuals are fully liable for their business liabilities.
When this current situation ends, which it will, the Chancellor will need to balance the nations books.
This can only come by increasing tax, abolishing reliefs or freezing existing allowances. Below is a best guess on what he may do in forthcoming budgets:
Freeze VAT, Inheritance Tax thresholds;
Increase the rate of dividend tax by 1-3 %;
Scrap the £2,000 dividend allowance;
Add 1p or 2p on income tax;
Increase the national insurance rate for the self-employed from 9% to 12%, to bring this in line with employees.
Scrap entrepreneur’s relief
I have detailed above many options that should be considered, if there are applicable to your individual circumstances.
If in doubt, or you wish to discuss any points raised, contact us.