Provisions of the Corporation Tax - Assignment Example

Assignment on Taxation Assignment Question No on Corporation Tax Payable by Mrs. Peter Limited The answer to this question takes the form of a letter addressed to Mrs. Peter explaining her, the various provisions of the Corporation Tax and the deductions available in the Act for the companies. Although detailed provisions are there in the Act, the purpose of this letter is to provide a basic understanding of the provisions affecting the company. This letter shows the calculations of the income of the company for the purposes of corporation tax and also the various deductions available under the Act. Mrs. Peter can study these calculations for the current year 2006-07 and the projections for the next three years 2007-08, 2008-09 and 2009-10 and get an idea of how much corporation tax she has to provide for the company. She is also advised of the important deductions available under the Corporation Tax so that the company can invest surplus funds suitably by way of tax planning measures to claim the allowances and deductions wherever possible. While the company can claim all the business expenses incurred by it during any financial year, there are certain other provisions governing the capital expenses incurred by the company for the purposes of the business. These are called capital allowances and these allowances cover the expenses incurred for the improvement of the business of the company. By allowing these capital expenses the Corporation Tax Act promotes the working of the companies towards progress. Statement showing the calculation of Income Under Corporation Act Provisions of the corporation Tax relating to Deductions and allowances The company can write off all the revenue expenditures incurred by the company against the income being earned by the company. These expenses are in the nature of the expenses which the company has spent for the promotion of the business of the company. For claiming deduction, these expenses should have been incurred wholly for business purposes and during the previous year. The examples of these expenses include salaries of employees, insurance expenses and other administrative expenses like auditor fees. The company is authorized for the deduction of the interest paid by the company to the banks or other financial institutions for the loans availed by it for business purposes. The interest should have been paid actually during the previous year. The first allowance is in the nature of depreciation on all working assets including industrial buildings and plant and machinery that are being used by the company for manufacture of products. An amount equal to 4 percent of the cost of the industrial buildings can be claimed by the company by way of writing down allowance. For claiming this deduction the company should have put to use the building in respect of which the deduction is being claimed. When the company constructs some building in enterprise zone the company can claim the whole cost of the building as deduction from the chargeable income. The position of the writing down allowance in respect of the plant and machinery belonging to the company is as follows: In general 25 percent on the written down value method is allowed as deduction for the large companies. In the case of small and medium companies there is a first year allowance equal to 50 percent of the cost of plant and machinery that can be claimed as a deduction from the income of the company. The companies that spend capital expenditures on machinery which are using energy saving technology can claim the total value of the machinery in full without limits by way of enhanced capital allowance. Bu for claiming the enhanced capital allowance the technology should be one recognized by the government. The amount of the capital expense can be claimed in full in the first year itself. But if the company feels that the company would be in an advantageous position then the company may choose to carry forward the deduction for the future years and claim the allowance in part. The balancing allowance represents the excess of the cost over the sale value of the machinery, which are not included in the common pool of machinery. This allowance can be claimed in the year of sale and the allowance is available only in respect of the machinery which has life of less than 5 years. Only when the machinery is sold, this allowance can be claimed. The Corporation Tax Act allows deduction in respect of motor cars for a total amount of 25 percent of the cost. This allowance is subject to a maximum deduction of 3000 per car. The company can claim this allowance in respect of the cars it is holding in its name. The company is allowed to make a deduction of one hundred percent of the total amount spent by it by way of capital expenditure on research and development. These expenses should have been incurred by the company in the previous year for which it is calculating the income under the corporate tax. It may be noted that the capital gains incurred by the company are also becoming taxable in the hands of the company. For calculating the capital gains the company should follow the same procedure as that of the individual persons. Capital gains are included in the income of the company along with other income and charged to tax as such. In case of capital losses the amount of capital loss can be adjusted only against capital gains and not business income. Carry forward and setoff of business losses are allowed by the companies. The companies can carry forward its business losses for the future years and set off them against business income in the next years. By a careful study of all the allowances and deductions the company can make a complete tax planning by making capital expenditure which is relevant and purposeful for the business. The aim of the Act in allowing these expenses is to encourage the companies to expend more on energy saving devices and more productive machineries. By understanding the object of all these allowances and deductions the company should be able to plan its capital expenditure for the next three years. The company should also take into account the corporation tax exposure of the company as shown by the calculations above The provisions as standing now provide for the allowances as shown in the statement. But the nature and extent of these allowances may change in the future when the company should have a re-look in its tax planning schemes by suitably modifying the capital expenses and other revenue expenses so that the company can claim the maximum of these allowances. Question No 2 - Corporation Tax of Mr. Peter Limited and Personal Tax of Mr. Peter In this part the letter is made to apprise Mr. Peter of the Corporation Tax implications of the company Mr. Peter limited and the extent of personal income tax payable by M. Peter. There are two statements showing the calculations of the income under corporation tax for the company Mr. Peter Limited and the income tax calculations for Mr. Peter. The calculations are done for the years 2006-07, 2007-08, 2008-09 and 2009-10 to show the possible amount of income tax payable by Mr. Peter and the Corporation Tax payable by the company Mr. Peter Limited. While a majority of the allowances and deductions for Mr. Peter Limited is the same as those applicable to Mrs. Peter Limited, this letter points out the special provisions that are applicable to Mr. Peter limited, since this company is categorized as a small and medium company under the Companies Act 1985. At the outset it is to be noted that these calculations are based on the assumption that the existing provisions of the Act will continue for the next three years. The tax calculations have been done on that basis only. There are possibilities that the government may change some of the provisions and include some more concessions or withdraw some existing allowances. In that case a complete re-work of the calculations will be required to compute the income and the tax on the basis of the changed provisions. The applicable rate of Corporation tax for your company is 19% sine the net taxable income is below the threshold of 300,000. Statement showing the calculation of Income Under Corporation Act The best tax planning for the company is to declare dividends. In view of the tax on the distribution of profits to the shareholders the company did not declare any dividends so far. Now the incidence of tax on dividend distribution is removed. So it is better for the company to distribute dividends. You are also taking salary from the profits of the company. Though it is allowed as a deduction for the company for Corporation Tax purposes, the amount becomes taxable in your hands at a higher rate. To avoid this, the company may distribute its profits by way of dividends. Since you come under the basic rate of tax payer class the dividend is taxed in your case at 10% whereas the salary will be taxed at 22%. As far as the plant and machinery is concerned since the company can be deemed as a small and medium company, it is entitled to a 50% first year allowance on the cost of plant and machinery. Now this allowance can be claimed only for the financial year 2006-07 The calculations of personal income tax of Mr. Peter are shown below: Statement showing the calculation of Personal Income Tax A deduction of 5,035 can be made from the gross taxable income by way of personal relief allowance. This amount is standard and fixed by the government from year to year on the budget. The amount of deductions will vary according to the age of the persons paying tax. In order to save as much tax payment as possible a person can invest in various schemes of investments authorized by the government which make the investments allowable as deduction. These deductions are always subject to some maximum amounts that are allowed by the act. Investments made carefully into any of these tax savings scheme will go to reduce the taxable income to the extent allowed by the Act. Hence Mr. Peter may think about the possibilities of investing some minimum amounts in these schemes. Fro example the investments in certain specified shares and securities offer themselves eligible for deduction. On the same ground the contributions to personal and other pension funds stand eligible for deductions. There are a lot of provisions governing these contributions as laid down by the Act. In any case, a maximum amount of 3,600 can be claimed as deduction from the income that will be allowed by the Act for contributions to any pension fund. For the maintenance of the children and their education some amount can be contributed to a Child Trust Fund which can be withdrawn by the child after reaching the age of 18 years. These contributions can be made in respect of children born after 31-08-2002 only and there is a restriction on the maximum amount at 1,200 per child. Whatever amounts the individuals pay to certain approved charities will be eligible for deduction. By planning certain investments and taking the profits from the company by way of dividends, there are bright chances of reducing the income tax to a great extent. Question No 3 - Personal Tax of Mrs. Paul The letter under this question is with respect to the personal income tax calculations of Mrs. Paul. In the case of Mrs. Paul there is the peculiarity of her pension being withheld by her ex-employer, for want of sufficient of funds in the pension fund. In such cases the Department of Works and Pensions provide a support under Financial Assistance Scheme (FAS). FAS prescribe certain conditions for claiming the unpaid pension by erring employers. Mrs. Paul can claim pension from FAS if she is within 15 years of her normal retirement age as on 14th May 2004. Any one under FAS will be getting the pension paid from the start of the 65th year of age. The amount of compensation will depend on the age and pension for amount for which the person is otherwise eligible. This amount of compensation will be included in the taxable income of Mrs. Paul. Statement showing the calculation of Personal Income Tax It is advisable to take advantage of the various tax efficient savings scheme. But you have to see the other financial commitments you have for meeting your other commitments. The investments in government recognized investment schemes will have the advantage of reducing your total income to the extent permissible under the Act and also provide for a compulsory saving which will come handy in times of need. Contribution to the pension fund is another area which needs to be considered for possible tax savings. Several plans are available for making contributions to pension fund. The maximum allowable deduction in this respect is fixed at 3,600. The income from other sources is subjected to income tax in the usual rates as applicable to salary and other personal income tax. The Act allows a personal relief amount of 7,420 based on your age. The Act prescribes different personal relief amounts for different age group people. Gifts to approved charities stand eligible for deduction from the personal income. But the charities should have been approved by the government. Overall it should be remembered that these calculations are based on the current level of taxation rates and deductions available which are subject to changes as may be announced by the government from year to year in the budgets for the financial years concerned. Paper 2 Taxation Assignment Question 1: Mrs. Peter Limited - Corporation Tax This letter giving details of the Corporation Tax liability of Mrs. Peter Limited is sent to Mrs. Peter for her information and action. Letter addressed to: Mrs. Peter This letter presents a brief review of the Corporation Tax liability of the company Mrs. Peter Limited. The calculations of the taxable income and tax calculations are worked out in this letter. Please study the tax implications and take note of the allowances the company can claim under the provisions of the Corporation Tax. For the years 2007-08 onwards the company can make necessary tax planning so that substantial tax savings can be availed. The company can make further investments in capital expenditure on research and development during the forthcoming years. Please note that the calculations on tax payable and other allowances are made based on the current level of Corporation Tax provisions. The Corporation Tax allows capital expenditure incurred on the conversion or renovation of business properties. The condition for claiming this capital expenditure is that the property should have been vacant for a period of one year and should be situated in a designated area. The capital expenditure can be claimed one hundred percent of the amount spent when the scheme is put in to effect. Otherwise an allowance of up to 25 % can be claimed. Since the company has a property lying unused in one of the designated area it is better to make some construction and claim the capital cost as allowance from the chargeable income. There are certain benefits which are available only to small and medium company like the first year allowance. The first year allowance is available at 50% of the cost of the cost of the plant and machinery. But the company is not meeting the criteria for a small and medium company as the turnover is much higher. The Companies Act has put ceiling on the turnover figures to determine whether a company is small and medium company. Only when the company's turnover is within this ceiling the company can claim the first year allowance. Calculations showing corporation tax amounts to be paid over the years Explanations for the deductions shown in the corporation tax calculations are discussed as mentioned below: Under the Corporation Tax, the company is allowed to deduct all the expenses from the income of the previous year. But the company should have spent the money for company's purpose. Workers salary, bonus, electricity charges and expenses of this nature for the business of the company can be deducted. The company can deduct even the interest paid by the company for loans taken from the banks for business purposes. Revenue expenses on research and development that cannot be taken as capital can be claimed up to25 % in the case of large companies. The Corporation tax allows the company to deduct the amount it paid to pension funds from the income. If the pension payments in a year are big (more than 210% of the last year), then the company can carry forward the pension payments to next years; but at the maximum for 5 years only. 4% of the cost of goodwill can be claimed as deduction from the income. Allowances: The Corporation Tax allows the companies to deduct various amounts of expenditure form their chargeable incomes, Some of them are revenue expenses in nature and some of them capital expenditure. Irrespective of the nature of the expenses these are called the capital allowances which go reduce the chargeable income of the company. The company be employing a correct tax planning scheme can claim the maximum capital allowances and reduce the amount of corporation tax it pays While some of the expenses are allowed in full some expenses have got limits for allowances. The details of the capital allowances are provided below: In respect of the buildings for company purpose the corporation tax allows 4 % of the cost as deduction from the income. For claiming this allowance, which is known as Writing down allowance can be claimed by the company only if the building is actually used by the company. The total cost of constructing buildings in enterprise zone is allowed as deduction. Depreciation or Writing down allowance on machinery is allowed at 25 %. This allowance is to be calculated on the written down value of the machines each year. For machines that have long life of more than 25 years the allowance can be claimed only 6%. Here the cost of the machine should be more than 100,000 for claiming 6%. The enhanced capital allowance means that the company can deduct from its income the total amount of expenses it has spent on the machines which are using energy saving technology. The technology should be one recognized by government. In the first year when this capital expense is spent by the company, it can be claimed. The company can claim this allowance in part if the company has some benefit in claiming the allowance like that. The company has the facility of keeping the value of those machines whose life are less than 5 years separately and claim a balancing allowance for these machines. But the balancing allowance can be claimed only in the year in which the company sells the machine. On cars owned by the company an allowance of 25% or 3,000 per car which ever is less is allowed as writing down allowance. This amount can be claimed in respect of all the cars owned by the company. Please note that the capital expenditure on research and development is allowed fully as deduction from the income. There is no limit on this deduction. The provisions of Corporation tax also take into account the capital gains. The capital gains are arrived at exactly in the same way as to how it is calculated for individuals. Capital gains are included in the chargeable income in full without any relaxations. The company can take the losses of the business to next years for adjusting against the profit of the company in the future. But if there is a loss on account of a capital asset then that loss can be adjusted against capital gains only. The company cannot set off the normal business profit against capital loss. Please note that this letter has presented a brief account of all the important points of corporation tax. These provisions are applicable to large companies only. But there are other provisions which are applicable to small and medium size companies. It is better for the company to plan all its capital expenditures in advance so that maximum allowance can be claimed legitimately under the act and avoid the payment of corporation tax. While incurring any revenue expenses the company should check whether such expense is deductible against the income of the company. Sometimes there may be provisions that will not allow the deduction of any expense from the income. Proper tax planning and careful spending of capital expenditure should be done by the company. Proper classification of expenditure into capital and revenue is also very much necessary to reduce the incidence of corporation tax. Question 2: Corporation Tax for Mr. Peter Limited Personal Income tax for Mr. Peter Letter addressed to Mr. Peter This letter makes a review of the corporation tax liability of Mr. Peter Limited and persona income tax liability of Mr. Peter and sent to Mr. Peter for his tax planning for the years 2007-2008 onwards. Most of the points about writing down allowances for buildings, machinery, cars and enhanced capital allowance for the company taxation are explained in the other letter for the other company Mrs. Peter limited. Please study those provisions carefully as they apply equally to your company also. Since this company is coming under the small and medium company provisions, some additional points are noted here. The calculations for the tax amount are provided in the letter. If and when the provisions for tax rates change in the nest years the calculations can be revised. Now this statement gives idea for the tax working. A similar statement for personal income tax is also shown in this letter. Please note the implications of your personal income tax and change the receipt of salary from the company next year and instead get the dividend as this will make you pay tax at less rates than salary income. Please note the following provisions of the Corporation Tax: A First year allowance of 50% of the amount spent on plant and machinery can be claimed as deduction from the chargeable income of the company. This allowance is available for the amount of expenses incurred for the period from 01.04.2006 to 31.03.2007. For the subsequent years there is no announcement made as yet. Hence no amount has been assumed for allowance. Calculations showing corporation tax amounts to be paid over the years Other Points: So far there is no dividend declared by your company. May be this was due to the avoidance of tax burden on distribution of profits. Now the position is changed. So the company can declare and distribute dividend from the next year (2007-2008) to take advantage of the situation. As stated earlier from the personal taxation point of view also it will be advantageous for you to take the profits in the form of dividends instead of salary, There in the case of dividend the tax percentage is less than the salary income. The provisions of writing down allowance for cars and balancing allowance are the same for your company also. The corporation tax rate for your company will be 19 percent only as the net taxable income is less than 300,000. With respect to your personal taxation please note the following points: You are entitled to a personal relief of 5,035 from your chargeable income as an allowance and no proof need to be given for claiming this deduction. There are different provisions for aged people. There are a number of provisions that are dealing with the payment of contributions to pension funds. You can claim deduction for payment to pension fund till your chargeable income subject to certain limits. The income tax act provides for the deduction on account of the pension fund contributions. There are personal pension plans available under which a maximum of 3,600 can be claimed. This will have a twin purpose of tax saving and also a form of compulsory saving for the retirement age. In a similar way the Act is allowing a lot of deductions in respect of tax efficient savings plans that are very useful as tax planning schemes. There are schemes like individual savings accounts and national savings and investments which can be considered as best ways of reducing tax liability. Since you have a child that is born after 31st August 2002, you can contribute an amount of 1,200 per annum as contribution to child trust fund. You can claim this as deduction from your income not subjected to tax. This amount can be claimed by the child when it turns 18 years. Gifts to approved charities and contributions to National Insurance are some of the other areas that need your considerations. The amounts gifted to government approved charities can be claimed as deductions and also contributions to the National Insurance also become eligible for deductions from the chargeable income. Please note that in the case of your personal taxation also the tax rates and allowable deductions are taken on the basis of the provisions as they stand today. The calculations for the future years can be suitably revised depending on the changes in the provisions of the tax laws. Calculations showing corporation tax amounts to be paid over the years Personal Income tax matter of Mrs. Paul Letter addressed to Mrs. Paul Subject to the provisions of the Income tax Act as they prevail today, your personal income tax calculations are detailed in this letter. Please take note of the provisions and by proper tax planning considerable amount of income tax can be saved in a legal and acceptable way. The deductions for which you are eligible are: A personal relief allowance of 7,420 depending on your age can be claimed as deduction from your income without any proof. As regards the contribution to pension fund you can claim a deduction of 3,600 without showing any proof for the amount of salary earned. This is in a way advantageous to you as it reduces your tax burden. Please note that irrespective of your actual contributions you can claim only a maximum of 3,600 under this head of deduction. Since your ex-employer has problems in releasing your pension amounts because of lack of full amount in the pension fund, you can claim a financial assistance from the Department of Works and Pensions. Under the Financial Assistance Scheme, assistance is provided to those employees who are under distress due to non receipt of pensions from their employers for want of funds in the pension fund. The Department of Works and Pensions says that for claiming this assistance one should be within 15 years of their normal retirement age as on 14.05.2004. The amount of the assistance will be calculated on the basis of the amount of pension and the age of the claimant as on 14.05.2004. The distribution of payments under the scheme starts from their 65th birthday in the case of certain employees. This amount of assistance will be included in your income for taxation purposes. In view of the provisions of the Income tax Act, if your financial circumstances permit you may invest in tax planning savings schemes which are available as recognized by the government. Investments in these schemes will entail a deduction from the gross total income amounts equal to the limits allowed by the Act under various provisions. The provisions prescribe maximum allowable deduction limits in cases of contributions to these funds like individual savings account or enterprise investment scheme where deductions are permitted up to certain level for the investments in the government approved shares and other securities. Subject to availability of funds the investments in these schemes would reduce your tax burden to a great extent. Calculations showing corporation tax amounts to be paid over the years Please study the calculations shown above and with small investments you can save considerable tax payments. Reference: Department of Work and Pensions "The Financial Assistance Scheme - Am I Eligible" http://www.dwp.gov.uk/lifeevent/penret/penreform/fas/ Read More