Tax issues for unincorporated businesses Ros Martin CTA December 2016 Autumn statement Nothing much to consider for self employed Reiteration of many previous announcements Some anti-avoidance provisions such as looking at FRS for VAT No announcement on MTD 1
Choice of business structure Basics First decision when starting is to determine structure Sole trade Partnership including LLP Corporate entity 2
What are the relevant issues? What are the expected profits? What is the other income of the proprietor? Might there be losses? Any need for limited liability? Status issues? Employees and incentives to be provided? What is the long term aim? Is pension planning relevant? Sole trade Taxed on all profit NICs to be paid VAT will be due once threshold exceeded Investment only via loans PAYE for employees Providing incentives to employees may be difficult No separation of risk Losses can be utilised against other income 3
Partnerships As above Except joint and several liability for debts Losses are subject to more anti-avoidance provisions Limited liability partnerships Again as above But the liability is limited More restrictions on loss set off And some cases where partners are taxed as employees 4
Limiting liability Can be a limited partner Or can have an LLP Managing risk can be an important aspect of determining business structure What does this protect you against? Losses Availability of losses in early years can be important too But need to be aware of significant restrictions And will see that HMRC are undertaking lots of work in this area 5
Particular uses for LLPs LLPs holding property Can be useful to non UK investors or tax exempt funds UK tax liabilities are limited to basic rate band And no CGT on disposal of property other than residential property No tax on tax exempt bodies Other advantages No need to have central control and management outside of UK to get advantages Can involve UK investors without anti-avoidance provisions applying 6
Offering employees stake in business LLPs can be useful vehicle to offer employees stake in business Without wanting to trigger charge under ERS provisions Can also get ER on share of underlying assets when sold Can also save NICs Need to be aware of anti-avoidance provisions Partnership losses Losses allocated to partners in proportion to partnership share Cannot get loss if not overall loss for partnership Also true for profits 7
Profit allocation HMRC have always argued that partners must put same allocation as partnership return But recent tax case has contradicted this Showed that can put a different figure as legislation is not at all clear Anti-avoidance provisions Restrictions on using losses sideways for partners Limited partners Members of LLPs Non active members Film partnerships with guaranteed income General rule is that losses are restricted to capital contributions less the losses already given Different rules as to how this is calculated 8
Limited partners Amount contributed Less any withdrawn capital Less any amount which is not personally borne Plus profits entitled to but not withdrawn LLP members Amounts contributed Less withdrawn capital Less contributions not borne Plus liability in winding up 9
Non-active partners Sideways loss relief limited to amount could otherwise claim Or £25,000 if lower In early years of business Computational issues 10
Losses – the basics Losses can be carried forward Against profits of the same trade But also set off against other income Therefore open to abuse Where can ‘pretend’ to trade in order to create losses Two restrictions to prevent this Effect of restriction Cannot utilise losses sideways But can still carry forward 11
What is the restriction? Must be trading on a commercial basis With a view to realisation of trading profits What is a reasonable expectation of profit? No specific time limit Must have expectation even if it is quite a distant time away Often depends if there is an alternative motive Such as clearly a hobby 12
Farming trade Additional restriction for farming and market gardening No sideways loss relief if loss in each of the previous five tax years This is before capital allowances Does not matter if claimed loss – it is just whether it has arisen or not Exceptions Where trade forms part of larger undertaking If reasonable expectation of profit If trade started within last five years 13
Is asparagus growing market gardening or farming? Taxpayer was horse breeder who started trading as asparagus farmer Knew that would be long lead in time Claimed sideways loss relief but refused FTT dismissed on basis single trade and as horse breeding not commercial no loss UT found error in law as separate businesses Commercial trade? G was tax lawyer and wife was concert pianist He set himself up as her promoter HMRC argued no loss relief as not commercial Definitely trading but probably did not have the correct infrastructure to be able to say was commercial venture 14
And another ... Employee of bank with self-employed consultancy business Claimed to offset losses but refused Claimed costs had been incurred which showed was commercial Felt that actually no loss as no evidence that these expenses had been incurred So actually no need to think about commerciality Casual trading Car hire and forex business Claimed losses No real evidence that had done anything at all! So no trade, let alone anything which was commercial 15
Farmers averaging Reminder of change which took effect from 6 April 2016 Extension of period over which can average so can now use 5 year averaging Two year averaging remains too Two year averaging Previously had to be less than 70% of profits to be able to average With partial averaging if less than 75% Full averaging now available if less than 75% 16
Five year averaging Can claim if either of the following is less than 75% of other Average of profits for first four years Profits of the last tax year Example £ 2012/13 50,000 2013/14 28,000 2014/15 26,000 2015/16 40,000 2016/17 96,000 17
General points Evidence that HMRC are asking a lot more questions about allowability of expenditure Often asking for detailed breakdown of expenses Two tests Revenue or capital Wholly and exclusively for the purposes of the trade S34 ITTOIA 2005 Gives basic test Must incur expenditure ‘wholly and exclusively’ for the purposes of the trade Lots of case law But still areas of genuine uncertainty 18
Basic principles The test needs to be considered under three areas The purpose must be identified and the sole purpose (if expenses are to be allowed) must be for the trade If there is duality of purpose, no deduction is allowed If there is more than one purpose, but the expenditure can be apportioned, then such an apportionment can be made The purpose Why is expenditure being incurred? For the purposes of the trade means ‘for the purposes of enabling a person to carry on and earn profits in the trade’ Facts must be ascertained To disallow, must identify a non-trade purpose 19
The purpose Not the nature of the expenditure which is important Same type of expenditure can be allowable in one scenario but not in another May be easy to see when extremes are involved, but can be very subtle Duality of purpose Cannot be allowable if there is a duality of purpose Important to distinguish between a secondary purpose and an incidental benefit which is not a purpose in itself So it is not the effect of the expenditure but the reason why it was incurred Many cases which consider this point 20
Duality of purpose Subconscious purpose Must not only consider conscious motives but also subconscious motives Very difficult to prove or disprove subconscious motives Will be subject to inference Various cases where this has been looked at Mallelieu v Drummond Caillebotte v Quinn Apportionment Although ‘wholly and exclusively’ there is nothing precluding apportionment If definite part can be shown to be trade and non-trade can allow trade part Cannot apportion part for a subconscious private purpose 21
Travelling expenses Something HMRC are really looking at currently Galvanised by various successes at FTT and beyond For self employed individuals needs to be critically reviewing position to see if can claim Newsom v Robertson This case set the tone for many cases Barrister who had chambers in Lincoln’s Inn But lived in Whipsnade (where also did some work) Claimed travelling between home and chambers But this was rejected by Courts 22
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