Trading: Calculating Profits and Paying VAT Flashcards
What are the two types of profit businesses can make?
-Income profits
-Capital profits
What is the difference between income profits and capital profits?
-Income profit relates to the regular, recurrent earnings produced by a businesses’ main activities or assets. Examples include profit from sale of goods, services, rental income
-Capital profit relates to the infrequent gains made from the sale of long term assets, such as property, equipment, investment or even something like an office building increasing in value
What are chargeable receipts?
-Chargeable receipts refers to money made from the sale of goods and services/regular income stemming from the businesses main activities. The money/income must come from the businesses core trading activities and be income i.e. recurring in nature.What is a deductible expenditure?
What is a deductible expenditure?
-A deductible expenditure is a cost/an expense that a business is able to take away from their total income when determining how much tax on that income they owe.
-The deductible expenditure must be of an income nature e.g. be a regular/recurrent expense.
What are some examples of deductible expenses?
Examples include utility bills, rent on commercial properties, salaries, raw materials & stock, interest payments on borrowings, contributions to pension schemes.
What is the purpose of deductible expenses?
By taking away this expense from the business total income, you reduce the total income, therefore reducing the taxable income to pay.
What is a capital allowance and how does it work?
A capital allowance is a type of tax relief that enables a business to lower the amount of tax they have to pay, by allowing them to subtract a proportion of their expenses/costs, (relating to the equipment/machinery they’ve purchased), from their taxable income, lowering their income and therefore lowering the amount of tax they have to pay.
What are some examples of capital allowances available to businesses?
-WDA: Writing Down Allowance
-AIA: Annual investment Allowance
-Full Expensing
What are the main features of each of these examples of capital allowances?
WDA- A writing down allowance is a special type of tax relief that enables a business to deduct 18% of the value of its combined business tools, equipment and machinery (valued at the beginning of each year), from its chargeable receipts (regular income received from business activities) when calculating trading profits.
-The value of a businesses machinery/equipment will therefore be reduced by 18% every year.
AIA: The AIA, is another type of tax relief, where a business will pay less tax by deducting the entire cost (100%) of expenses relating to plant and machinery purchased that year (for up to £1million) from the businesses’ chargeable receipts. This is to encourage investment
Full expensing- This form of tax relief allows companies to deduct 100% of the costs of the assets (plant and machinery), bought by said company that year. The amount deductible is uncapped unlike the AIA where businesses can spend up to £1million in costs used to purchase investment assets which will be deductible. Full expensing only relates to companies
What is a relief?
As mentioned a tax relief is a way for individuals/business to pay less tax by allowing them to deduct certain costs/expenses from total taxable income to receive less tax.
What is a relief for a trading loss?
A relief for a trading loss allows sole traders and partners to pay less tax overall, by deducting a trading loss from either their total income or a certain component of their income to reduce their income overall and pay less tax.
What are the main types of relief for unincorporated businesses
- Start-up loss relief
- Carry across/one year carry back relief
- Set-off against capital gains
- Carry-forward relief
- Carry-back/across of terminal trading loss
What is start up loss relief+ how does it work
-Start up loss relief is a tax reduction option available to tax payers in any of the first 4 years following the start of a new business.
-If a business makes a trading loss one year, this loss will be deducted from the total income from each of the 3-years prior for the tax year the loss occurred (starting with the earliest year) until the loss is completely absorbed.
-By reducing the available income in the previous years, you reduce the amount of tax needed to be paid on those reduced income figures, enabling the tax-payer to claim back some of the income tax they paid to HMRC in those years and receive a tax rebate.
What is carry across/carry back 1 year relief?
This tax reduction option is available to unincorporated businesses for trading losses in any accounting year of trading.
-If a business makes a trading loss in a particular year it can deduct this trading loss from total income from the same tax year or total income of the tax year before.
-Alternatively the trading loss made in a year can be deducted from the total income of the same tax year until it is reduced to 0, and if the trading loss has not been fully absorbed, the balance can be deducted from the total income of the previous year or vice versa, I.e. deduct the loss from the total income of the previous tax year until it is reduced to 0, then deduct the balance from the current tax year.
-This reduces the total income made in the current and previous years, so taxpayer can claim a tax rebate.
What is carry forward relief?
-A carry forward relief is a tax reduction option available to unincorporated businesses in any accounting year of trading.
-It allows them to deduct a trading loss from business activities made one year from the profits of the same business activities made in subsequent years (starting from the earliest year profit is made), until the loss is absorbed. Losses can be carried forward indefinitely until a year profit starts being made. This reduces future profits which will in turn reduce total taxable income.
Tax payers can use ALL carry forward, carry across and carry back reliefs until the loss is absorbed.
What is carry-back/across of terminal trading loss?
-This is a tax reduction option available to unincorporated businesses who have just ceased operations.
-Any loss incurred by a tax-payer in their last 12 months of trading can be carried across and deducted from trading profits made in that same financial year and from profits made in the 3 years preceding the year of loss until it is fully absorbed. Reducing trading profits, reduces overall taxable income, reducing the amount of tax that has to be paid/was paid.
-A loss from a financial year being able to be set off from profits of the same financial year means a loss and profit can occur in the same year. This is possible because the rules allow for other sources of income connected with the business but not profits of the business to be treated as trading profits.
What is carry forward relief on incorporation of a business?
This is a tax reduction option available if a tax payer incorporates their business by transferring it to a company wholly or mainly in return for shares (e.g. 80% or more of the consideration for the business transferred must be for shares in the company).
-If previous to incorporation a trading loss occurred this can be set off, against any income an Individual receives from the company such as salaries and dividends.
- Reducing the amount of income a tax-payer receives reduces the amount of taxable income they must pay. The loss can be deducted from more than one source of income, salaries and dividends) until it is absorbed
What are some caps on reliefs?
-Start up relief, carry across/carry back relief are all capped at £50,000 or 25% of the tax payers income (whatever is greater) in the tax year where the relief is claimed for a loss. So you can only reduce your tax by a certain amount 50k or 25% of income made that year
-However this rule only applies to income made from sources outside of the business (money made from other things). If most of the money you make comes from the business itself the rule won’t affect you much.
How to calculate trading profit/loss
Chargeable receipts - deductible expenditure- capital allowances (including AIA) = Trading Profit/Loss
What is a taxable person?
A taxable person is one who is registered for VAT, or required to be so, at the time of the supply. A taxable person can be any person or business that has to pay taxes because they earn income or make sales that are taxed.
What is a taxable supply
A taxable supply is the sale of goods and services that is subject to VAT. The seller must charge VAT and pay it to the government (HMRC)- (output tax-input tax)
Who must register for VAT?
Anyone making taxable supplies of more than £90,000 in a 12 month period must register and charge VAT
