Tax planning

Question 1

What are the main types of business structures for tax purposes?

Answer 1

Sole trader, partnership, and company.

Question 2

How is a sole trader taxed?

Answer 2

They file a self-assessment tax return and pay Income Tax on profits, plus Class 4 National Insurance.

Question 3

How is a partnership taxed?

Answer 3

Each partner files a tax return and pays Income Tax on their share of profits, plus Class 4 National Insurance.

Question 4

How is a company taxed?

Answer 4

The company pays Corporation Tax on its profits.

Question 5

What tax applies when a business employs staff?

Answer 5

Regardless of structure, the business must operate payroll, collect PAYE and employee NI, and pay employer’s NI. These staff costs, including employer’s NI, are allowable deductions.

Question 6

How do sole traders and partners extract profits?

Answer 6

Through drawings. Drawings are not an allowable deduction for the business, but there is no additional Income Tax as tax has already been paid on profits.

Question 7

How do company owners extract profits?

Answer 7

Shareholders may receive dividends (which are subject to Income Tax) or salaries (subject to Income Tax and NI). Dividends are not deductible for the company, but salaries are.

Question 8

What are the 2024/25 Income Tax rates for non-savings income

Answer 8

Basic rate (up to £37,700): 20%
Higher rate (£37,701 to £125,140): 40%
Additional rate (above £125,140): 45%

Question 9

What are the 2024/25 Income Tax rates for dividend income?

Answer 9

Basic rate: 8.75%
Higher rate: 33.75%
Additional rate: 39.35%

Question 10

What is the personal allowance for the 2024/25 tax year?

Answer 10

£12,570 – this is the amount individuals can earn tax-free.

Question 11

What is the trading allowance for 2024/25?

Answer 11

£1,000 – applicable to trading profits.

Question 12

Are dividends subject to National Insurance?

Answer 12

No, dividends are not subject to National Insurance.

Question 13

What are the 2024/25 Class 1 Employee’s NI rates?

Answer 13

Below £12,570: 0%
£12,570 to £50,270: 8%
Above £50,270: 2%

Question 14

What are the 2024/25 Class 1 Employer’s NI rates?

Answer 14

Below £9,100: 0%
£9,100 and above: 13.8%

Question 15

What is the employment allowance for 2024/25?

Answer 15

£5,000 – available against employer’s NI, but not for companies with only one employee.

Question 16

What are the main ways to extract profits from a company?

Answer 16

Salaries, dividends, or a mixture of both.

Question 17

Why might dividends be preferred over salaries for profit extraction?

Answer 17

Dividends are taxed at lower income tax rates and are not subject to employee or employer National Insurance.

Question 18

What is a key tax disadvantage of paying salaries compared to dividends?

Answer 18

Salaries attract both employee’s and employer’s National Insurance and are taxed at higher income tax rates than dividends.

Question 19

What is a key tax advantage of paying salaries compared to dividends?

Answer 19

Salaries are an allowable deduction for corporation tax purposes, reducing the company’s tax liability.

Question 20

Can dividends be paid at any time from a company?

Answer 20

No, dividends must be paid from retained earnings. If there are insufficient profits, the desired dividend amount may not be available

Question 21

Are dividends an allowable deduction for corporation tax purposes?

Answer 21

No, dividends are not deductible for corporation tax purposes.

Question 22

How is the net cost of a salary to a company calculated?

Answer 22

Gross salary plus employer’s NI minus the corporation tax saving (at 19% or 25%).

Question 23

What is the personal allowance for each individual in 2024/25?

Answer 23

£12,570

Question 24

Why should personal allowances be considered in tax planning for couples?

Answer 24

To ensure both individuals make full use of their tax-free income allowance.

Question 25

What income tax planning strategy can reduce overall tax liability between spouses or civil partners?

Answer 25

Transferring income-generating assets (e.g. shares or a partnership stake) to the spouse or civil partner who pays a lower rate of tax.

Question 26

What is the Capital Gains Tax annual exempt amount for 2024/25?

Answer 26

£3,000 per individual

Question 27

Can assets be transferred between spouses or civil partners without triggering Capital Gains Tax?

Answer 27

Yes, transfers can usually be made on a nil gain, nil loss basis, meaning no CGT is payable at the time of transfer.

Question 28

Why might capital gains tax planning involve future consideration of business asset disposal relief?

Answer 28

To determine whether both individuals could qualify for business asset disposal relief, which may reduce CGT payable on future disposals.

Question 29

Why is it beneficial to consider the income tax rate of both spouses/civil partners in planning?

Answer 29

Because shifting income to the lower-rate taxpayer can reduce the overall household tax liability.

Question 30

What are the advantages of extracting profits as salary?

Answer 30

Salaries can be paid even if the company is making a loss. Salaries and employer’s NI are tax deductible, reducing corporation tax at 19% or 25%.

Question 31

What are the disadvantages of extracting profits as salary?

Answer 31

The employee pays income tax and employee’s National Insurance. The employer also pays employer’s National Insurance.

Question 32

What are the advantages of extracting profits as dividends?

Answer 32

Dividends are taxed at lower income tax rates than salaries. Dividends are not subject to employee’s or employer’s National Insurance.

Question 33

What are the disadvantages of extracting profits as dividends?

Answer 33

Dividends can only be paid if there are sufficient retained earnings. Dividends are not tax deductible, so they do not reduce corporation tax.

Question 34

What are the tax benefits of transferring shares between spouses or civil partners?

Answer 34

Nil gain nil loss transfer No capital gains tax payable on transfer Allows sharing of dividend income to reduce overall tax liability Utilises both personal allowances and basic rate bands

Question 35

What are the short-term tax advantages of sharing dividend income between spouses or civil partners?

Answer 35

Lower tax rate on dividends (8.75%) if recipient is a basic rate taxpayer Reduces higher or additional rate exposure for the original shareholder Maximises use of both individuals’ personal allowances

Question 36

What are the long-term tax benefits of share transfers between spouses or civil partners?

Answer 36

Both can use their annual exempt amount for capital gains tax Reduces CGT liability on future share disposal Allows income and gains to be distributed more tax efficiently

Question 37

What is Business Asset Disposal Relief and who qualifies?

Answer 37

Relief that reduces CGT to 10% on qualifying disposals Requires at least 5% shareholding and active involvement in the business Not available if the shareholder does not work in the company

Question 38

What is the risk if the receiving spouse or civil partner does not qualify for Business Asset Disposal Relief?

Answer 38

Capital gains tax may be charged at 20% instead of 10% No eligibility if not actively involved in the company or lacks 5% shareholding