Business tax and VAT

Tuesday 6 December, 2011

By Kelvin Goodson - kelvin@consumerchoices.co.uk

While even the fella who said “tax doesn’t have to be taxing” doesn’t believe it, you can make a complex subject a little simpler by approaching it with a good understanding of the basics.

“Now my advice for those who die/Declare the pennies on your eyes/'Cause I’m the taxman/And you're working for no one but me” - The Beatles - Taxman, 1966.

As painful as it may feel to give a wedge of your hard-earned cheese to the state, tax is, as we all know, one of life’s certainties, whether you earn a living as a pop star or doling out popcorn at the local picturehouse.

So, If you’re running a business, you will have to pay taxes of some kind, but which taxes you pay and what processes you will have to use to work out what you owe and how you pay it depends on several factors.

According to Business Link, the government’s online resource for businesses, these will include your business' legal status, annual turnover and taxable profits.

Business taxes

Business Link identifies the four main business taxes that your company may have to pay as:

Income tax - This is helpfully identified by HM Revenue & Customs (HMRC), the government department responsible for collecting taxes, as “a tax on income”.

It’s hard to argue with that assessment and, as long as you are earning above a certain level and are not eligible for any reliefs or allowances, you will have to pay this whether you are self-employed, part of a partnership or a director of a limited company.

Corporation tax - HRMC defines corporation tax more helpfully as “a tax on the taxable profits of limited companies” - “limited” is short for “limited liability”, meaning that the company is liable for its debts, rather than individual owners. Corporation tax is also payable by other organisations such as clubs, societies and associations.

If you start a limited company you must inform HRMC within three months of when you start doing business. If you don’t, your company may be charged a “failure to notify” penalty, which is calculated by applying a percentage to the tax owed according to the intention or otherwise of the failure to notify.

Taxable profits for corporation tax are defined by HMRC as profits from taxable income, such as trading and investment profits, and capital gains - profit resulting from investment in a capital asset (an asset that isn’t daily trading stock). Disposing of this asset for more than it cost means a “chargeable gain” may have arisen, in corporation tax jargon.

VAT - Value added tax (VAT) is a tax charged on most goods and services provided by businesses in the UK, if the company has to be VAT registered.

The HRMC says that your company must register for VAT if its turnover of VAT taxable goods and services supplied within the UK over the previous 12 months is more than £73,000, or you expect the turnover to go over that figure in the next 30 days alone.

VAT is also charged on goods and services that are imported from outside the European Union (EU), but brought into the UK from other EU countries. The tax is charged whenever a VAT registered business sells to either another business or a consumer.

National Insurance - According to HRMC, the idea of National Insurance (NI) is to make contributions to “build up your entitlement to certain state benefits, including the state pension”. As a business owner, NI will only apply to you if you have employees.

NI is paid by both employees and those who are self-employed, as long as they are over 16 and their earnings are above a certain level. As Business Link states, as an employer you are responsible for paying NI contributions on the earnings you pay to your employees.

However, NI applies not only to cash, but also any benefits you provide employees with, such as company cars.

Business tax calculation and payment processes

As well as having to identify what kind of taxes your business will have to pay, you will also need to know what the main business tax calculation and payment processes are in order to work out which of them you will need to use to pay your taxes.

Remember though, it’s not a lot of use knowing which taxes your business needs to pay and how to work out what it owes if you haven’t kept full, accurate records of your business income and expenses - do as Business Link suggests and make sure you start doing this from the moment you begin in business.

Self-assessment - According to Business Link, this process of calculating and paying taxes is most commonly used by the self-employed, business partners and business partnerships.

HRMC describes self-assessment as completing a tax return (the document that must be filed with HRMC to declare that your business is responsible for paying tax) online or on paper. This document tells HRMC about your business’ income and capital gains (profit resulting from the sale of certain assets), and also allows you to claim for any tax allowances or reliefs you are eligible for.

You will normally be contacted by HMRC in April if it thinks you need to fill in a tax return and, obviously, there are deadlines for sending it to HRMC. At present, if you do your tax return on paper it must reach HRMC by midnight on 31 October. If you do it online, it must reach HRMC by midnight on 31 January.

HRMC has a catchy little refrain for how much it’ll cost you if you miss your tax return deadline - the longer you delay, the more you'll have to pay. The penalties range from £100 for one day late to £300 or 5% of the tax you owe, whichever is higher, for being 12 months late. In serious cases, you might be asked to pay up to 100% of the tax due instead. Ouch.

Corporation tax - Since 1 April this year, businesses that are lucky enough to have to pay corporation tax (limited companies) have had to “submit their company tax returns online and pay all corporation tax and related payments electronically,” according to HRMC.

Perhaps unsurprisingly, a company tax return ain’t all that different to a self-assessed tax return - it’s a document that your business must send to HRMC each accounting period (usually 12 months) if it is liable for corporation tax - even if it hasn’t actually made any taxable profits.

To work out how much corporation tax your company owes over the corporation tax accounting period involves first of all working out the pre-tax profit over the period. It then needs adjusting to take into account how much of that profit is taxable, the amount of tax payable and then the actual corporation tax to pay after subtracting tax already paid, tax credits and anything else deductable.

Unlike self-assessed tax returns, corporation tax payment is due before the deadline for sending HRMC your company tax return. If your company’s taxable profits are less than £1.5million, you must pay up by what’s known as the “normal due date,” which is nine months after the end of your corporation tax accounting period. The company tax return must be filed with HRMC within 12 months of the end of your company’s corporation tax accounting period.

Failing to file your company tax return on time will lead to a penalty of £100, followed by a further £100 penalty if it’s more than three months late. The penalties quickly begin to ramp up the later the return is.

PAYE - PAYE (Pay As You Earn) will only apply to your business if you are an employer. PAYE is the tax calculation and payment process used by HRMC to collect income tax and National Insurance (NI) from your employees as they earn money. This will apply to you too - even if you are a director of your business.

As an employer, it’s your responsibility to deduct income tax and NI from your employees’ pay each time they receive it, as well as paying Class 1 NI contributions for each employee who is aged 16 or over who earns more than an earnings threshold set out each tax year by HRMC. These amounts are paid to HRMC on a monthly or quarterly basis.

It is your legal obligation if you are an employer to operate PAYE on payments you make to your employees if their earnings reach the NI lower earnings limit (LEL). Your employees’ tax code and NI category is used to work out how much income tax and NI to deduct from their pay and how much Class 1 NI contributions your business owes on their pay.

HMRC should receive your business’ PAYE payments by the 19th day of each month or the 22nd day if you choose to pay electronically. You will be able to pay quarterly if your company’s average monthly payments are likely to be less that £1,500.

Your business won’t be hit with a penalty if only one PAYE payment is paid late in a tax year unless it is six months late. After six months you get a penalty charge of 5% of what’s owed, with a further 5% penalty kicking in after 12 months. Various penalty percentages apply to making multiple late payments in a tax year.

VAT - Even Her Majesty’s taxmen and women are catching up with the digital age - HRMC now recommends that businesses make all their VAT payments electronically as it’s safer, more convenient and gives you extra time in which to stump up the moolah.

If your company is VAT-registered then you are responsible for working out how much VAT you owe. So if you advertise your prices exclusive of VAT, you’ll need to work out how much VAT to add. If you advertise your prices inclusive of VAT you’ll need to work out how much VAT to record in your VAT account. Similarly, if you want to claim VAT back on your VAT-registered company’s purchases, you’ll need t work out the VAT from any VAT-inclusive amounts paid out.

At the end of each VAT period - usually every three months - you will have to fill in a VAT return, which tells HRMC how much VAT you’ve charged your customers, how much VAT you are entitled to claim back, the amount of VAT you owe HRMC or vice versa, the total amount of sales and purchases your business has made and the total amount of goods and services you have sold to or bought from other EU countries.

Your VAT return must be, er, returned, along with your payment, by the end of the month following the three months it covers. If you don’t submit both on time you’ll receive - surprise, surprise - a surcharge.

If you miss a VAT deadline and your company’s turnover is less than £150,000, HRMC will offer help and support. If you “default” again over the next 12 months, HRMC will send you a “Surcharge Liability Notice” explaining what will happen if you miss another payment over the next 12 months. Third strike and you’re out - HRMC lands you with a surcharge calculated at 2% of your unpaid VAT, with the percentage ratcheted up as defaults become more numerous in a surcharge period.

And finally...

This is obviously a far from comprehensive guide to the world of business tax and VAT, but it has hopefully given you a good grounding in what particular taxes your business might have to pay and how you go about working out what you owe, how you pay it and what could happen if you can’t or won’t.

But before you baulk at what your business may have to pay out, remember that making sure your company’s tax records and returns are as efficient and accurate as possible will ensure that you are not paying HMRC too much and that you steer clear of the various penalties that can quickly begin to pile up if your books aren’t in order.

There are also various forms of tax relief that your business may be eligible for once you have identified what kind of taxes you have to pay. Happy hunting!