HMRC notices

The assessment of self-employed or partnerships profits is usually relatively straight-forward if the accounting date – the date to which accounts are prepared – falls between 31 March and 5 April. However, overlap profits can arise where a business year end date is not coterminous with the end of the tax year.

Overlap profits can happen in the first 2 or 3 years of the business or in any year in which there is a change of basis period because of a change of the accounting date.

For example, if a client's business starts 1 January 2018 and their chosen year end date is 31 December 2019, the basis periods are:

• 2018 to 2019, 1 January 2019 to 5 April 2019
• 2019 to 2020, 1 January 2019 to 31 December 2019

The portion of accounts from 1 January 2019 to 5 April 2019 is therefore taxed twice and is known as overlap profit.

Overlap relief can be used to reduce the profits on the final tax return when the business ceases trading or if the accounting period changes. Overlap relief is a mandatory deduction. The full amount of the relief available for a particular tax year must be given as a deduction for that tax year. No part of the deduction can be waived.

If overlap profits were created some time ago, and profits have been declining in recent years, it may be prudent to consider a change of accounting date closer to, or at the end of, the tax year. In this way, the overlap relief can be claimed and tax liabilities reduced at a beneficial time for the business or partnership. There can also be Income Tax and National Insurance savings.

The SEIS provides for extensive Income Tax and Capital Gains Tax (CGT) breaks for investors and this greatly encourages much needed seed capital in new businesses. The SEIS is most valuable for taxpayers who can fully benefit from the tax reliefs on offer.

For investors the main benefits of the scheme are as follows:

• Income Tax relief worth 50% of the amount invested to qualifying individual investors on a maximum annual investment of £100,000.
• A 50% exemption from CGT on gains reinvested within the scope of the SEIS. The maximum gain to be relieved is capped at £100,000 and the relief will be withdrawn if the SEIS relief is ultimately withdrawn.
• There is a 100% exemption from CGT on the sale of shares more than three years after the date on which they were issued.
• An SEIS investment will normally qualify for 100% relief from Inheritance Tax where the usual conditions are met.

The availability of both Income Tax and CGT relief has made the SEIS a very popular scheme. The reliefs are only available where there is sufficient liability against which to set the relief. Under certain circumstances, small business owners can also use the scheme to invest in their own businesses. Of course, investors must consider the importance of picking a good company to invest in and carry out proper due diligence. 

There are a number of conditions which must be met in order to invest in the scheme. For example, the scheme can only be used to invest in small companies i.e. companies with gross assets of no more than £200,000 and with less than full-time equivalent 25 employees. A company can raise a maximum of £150,000 through the SEIS but can go on to use other schemes such as the EIS to raise further funds.

There are special rules for the taxation of post-cessation receipts after a trade has ceased. The legislation clearly states that the person who receives or is entitled to the post-cessation receipt is the person who is subject to Income Tax or Corporation Tax on the income. This does not have to be the same person who carried on the original trade.

HMRC manuals state that: a receipt which arises from a property rental business, after it has ceased, is taxable under special rules provided, it is assumed that the taxpayer has not already included that receipt in the computation of their rental business profits.

The taxpayer may also be able to claim relief for post-cessation expenses for which they have had no relief. One example might be the cost of background heating for empty premises to keep down condensation and so maintain the value of the property for later sale.

A claim for post-cessation property relief is possible if a taxpayer ceases to carry on a UK property business and within 7 years makes a 'qualifying payment' or a 'qualifying event' occurs in relation to a debt of the business. A claim to relief must be made on or before the first anniversary of the 31 January following the end of the tax year in which the payment is made.

The weekly rates of child benefit for the only or eldest child in a family is currently £20.70 and the weekly rate for all other children is £13.70. These rates have remained unchanged for some time. Taxpayers entitled to the child benefit should be aware that HMRC usually stop paying child benefit on the 31 August following a child’s 16th Birthday. Under qualifying circumstances, the child benefit payment can continue until a child reaches their 20th birthday if they stay in approved education or training.

Child benefit is usually payable for children who come to the UK, however, there are a number of rules which must be met in order to claim. HMRC must be notified without delay if a child receiving child benefit moves permanently abroad.

It is also possible to claim Guardian’s Allowance if you are bringing up someone else’s child because one or both parents have died. The Guardian’s Allowances is paid on top of child benefit and is currently £17.60 per week.

Beware related tax charge

The High Income Child Benefit charge applies to higher rate taxpayers whose income exceeds £50,000 in a tax year and who are in receipt of child benefit. The charge either reduces or removes the financial benefit of receiving child benefit. Where both partners have an income that exceeds £50,000, the charge will apply to the partner with the highest income.

For taxpayers with income above £60,000, the amount of the charge will equal the amount of child benefit received. Taxpayers have the choice: to keep receiving child benefit and pay the tax charge through Self Assessment or elect to stop receiving child benefit and not pay the charge.

It is common practise in the building industry for a final percentage of an amount due to a builder to be withheld as a retention. This payment allows the customer to retain part of the total payment due until satisfied that the builder has completed all the activities required of them under contract at an agreed level of satisfaction.

Typically, this may be for a 12-month period between a Certificate of Completion being given and the issue of a Maintenance Certificate.

HMRC accepts that builders will generally deal with retentions in one of the following ways:

• include retentions within turnover, provide for the estimated cost of remedial work, and make provision for any debt impairment, or
• defer recognition of retentions until their receipt becomes virtually certain.

HMRC is prepared to accept either of these options for tax purposes as an accepted treatment unless an unrealistically conservative view has been taken. In some cases, these monies are never paid. HMRC point out that, consequently, it will often be the case that, whichever of the above approaches is adopted, there will be little or no difference in the figure of net profit.

Interestingly, there is no statutory definition of ‘trade’. The only statutory reference to the term states that ‘trade’ includes a ‘venture in the nature of trade’. This absence of statutory clarity has left definition – is a certain activity a trade or not – to the courts, and they have set some established guidance. 

This effectively suggests that the term ‘trade’ can be taken to refer to operations of a commercial kind, by which the trader provides to customers for reward with some kind of goods or services. 

The courts have also found the so-called ‘badges of trade’ tests to be helpful indicators of trading in some cases. The tests, whilst not conclusive, are used to help determine whether an activity is an economic / business activity or merely a money-making side line to a hobby. 

It is clear from the significant amount of case law on this subject that a decision on whether there is indeed a trade is often not black and white. Even if HMRC consider that the activities in question are a trade, taxpayers can make up to £1,000 per year from their ‘trade’ using the trading allowance that was introduced in April 2017. 

There are special rules for the taxation of post-cessation receipts, those received after a trade has ceased. The legislation clearly states that the person who receives or is entitled to the post-cessation receipt is the person who is subject to Income Tax or Corporation Tax on the income. This does not have to be the same person who carried on the original trade.

The only test to consider when deciding whether these rules apply is if the income is a post-cessation receipt. If it is, then unless the territorial exclusion applies, the income is taxable on the recipient.

HMRC manuals explain how case law has determined when and if there is another person with a claim to the income. Effectively, the conclusions drawn mean that it is the person who receives the money who is taxable even if others can also lay claim to the funds involved.

Consideration must be given to the specific facts of each case to decide who is liable to tax on the post-cessation receipt.

Most of our readers will be aware of the £1,000 property income allowance that came into effect on 6 April 2017. This allowance applies to income from property (including foreign property). If your annual gross property income is £1,000 or less, the amount is exempt from tax and doesn’t need to be reported on your tax return. In practice, the use of this allowance is limited, but could work, for example, if you rented your parking space for a small amount of extra income.

HMRC also publishes a list of income streams that are excluded from a UK property business. The list includes fishing concerns, hotels and guest houses, tied premises, caravan sites, lodgers and tenants in your own home, extra services to tenants and letting surplus trade accommodation. In most cases the income from these activities will be taxed as income of a trade and not as property income.

There are also certain receipts which can arise out of the use of land and which are specifically excluded by statute from a rental business. These include yearly interest, income from the occupation of woodlands managed on a commercial basis, income from mines and quarries and income from farming and market gardening.

If you are self-employed as a sole trader or as a partner in a business partnership, then you must keep suitable business records as well as separate personal records of your income.

For tax purposes, the business records must be held for at least 5 years after the 31 January submission deadline for the relevant tax year. For example, for the 2017-18 tax year, when online filing was due by 31 January 2019, you must keep your records until at least the end of January 2024. In certain situations, such as when a return is submitted late, the records must be held for longer.

If you are self-employed you should keep a record of:

• all sales and income
• all business expenses
• VAT records if you’re registered for VAT
• PAYE records if you employ people
• records about your personal income

You don't need to keep the vast majority of your records in their original form. If you prefer, you can keep a copy of most of them in an alternative format, as long as they can be recovered in a readable and uncorrupted format. For example, a scanned PDF document.

If records are no longer available for any reason you must try and recreate them letting HMRC know if the figures are estimated or provisional. There are penalties for failing to keep proper records or for keeping inaccurate records.