UK Tax Matters
June 16, 2007 1:54 AM Subscribe
I'm recently self-employed and I need some advice about tax deductions. I'm going to be getting a new, rather expensive computer but I also want to make sure I have enough money to pay my taxes.
The computer will be used for business and home use - so where do I stand tax deduction-wise?
I want to do the right thing but I dont want to pay more tax than I should.
So if I buy something that will be used for work and play do I deduct all/part/none of the costs from my profits? The computer will cost nearly £5,000 will this get me a big red flag on my accounts if I deduct the whole cost?
I also read something about deducting the cost of business equipment over a number of years - depending on how long it will be in use - does this apply here?
On a related topic - I may potentially have a large job coming in paying about 5x what I would normally make for the whole year - I know theres going to be a huge tax bill on that this year but my question is - do I need to save most of it to pay my tax bill for the next year then wait for a rebate a year later or will the fact I've only been in business a few months mean I wont get an estimated bill for a couple of years?
I want to do the right thing but I dont want to pay more tax than I should.
So if I buy something that will be used for work and play do I deduct all/part/none of the costs from my profits? The computer will cost nearly £5,000 will this get me a big red flag on my accounts if I deduct the whole cost?
I also read something about deducting the cost of business equipment over a number of years - depending on how long it will be in use - does this apply here?
On a related topic - I may potentially have a large job coming in paying about 5x what I would normally make for the whole year - I know theres going to be a huge tax bill on that this year but my question is - do I need to save most of it to pay my tax bill for the next year then wait for a rebate a year later or will the fact I've only been in business a few months mean I wont get an estimated bill for a couple of years?
I also read something about deducting the cost of business equipment over a number of years - depending on how long it will be in use - does this apply here?
Yes. Strictly speaking, the money you spend on buying your computer is 'capital expenditure' -- that is, money that goes towards equipment that is owned and used by the business ("plant and machinery" is the buzzword). This is different from 'revenue expenditure', which is day-to-day expenses: rent, heat and lighting, employees' wages, internet connection, and goods that you buy to resell as part of your business, for example.
For tax purposes, you are only allowed to deduct revenue expenditure from your revenue when you calculate your taxable profit.
Why? Because capital expenditure is different: when you buy a £5000 computer, you still have that £5000 worth of value in the business, only in computer form rather than cash form. It's not a normal day-to-day expenditure. You've not actually lost any money by buying that computer.
Of course, we all know that things like computers and cars depreciate in value. Ignoring the taxman for a moment, if you were just preparing your own annual accounts internally, you would estimate how much your computer has depreciated in value in the year, and write that down as the cost of depreciation. From an accounting point of view, you should think of it as here that your company actually loses money, year by year, rather than your company losing £5000 in one go at the moment where you buy the computer.
Now, the taxman does let you deduct the cost of this depreciation. But, since estimating depreciation is a fuzzy art, they don't let people just make up their own depreciation figures. Instead, they have a system called 'capital allowances', which specifies the percentage you're allowed to write off each year.
(As an aside, they sometimes use capital allowances to encourage certain kinds of spending. For instance, a few years ago you used to be able to write off 100% of the cost of computer equipment in the first year, because they wanted to encourage businesses to get techy. Now there is no such scheme, unfortunately.)
There are different rules for small business vs. medium business, etc., so you'll have to dig a bit to find out what scheme applies to you. Here's a introductory page on the Business Link web site about capital allowances for plant and machinery.
With regard to the fact that the computer will be used partly by your business and partly personally, all you do is estimate what proportion the computer will be used for each purpose, and then for your business's capital allowances you treat the computer as if it had cost that proportion of its true cost. So, if you reckon your use will be split 60% business and 40% personal, then for capital allowances purposes you treat the the computer as if it had cost 60% x £5000 = £3000.
(You'll have to do the same apportioning for the purposes of claiming back VAT on the computer, assuming that you're VAT-registered.)
posted by chrismear at 5:02 AM on June 16, 2007
Yes. Strictly speaking, the money you spend on buying your computer is 'capital expenditure' -- that is, money that goes towards equipment that is owned and used by the business ("plant and machinery" is the buzzword). This is different from 'revenue expenditure', which is day-to-day expenses: rent, heat and lighting, employees' wages, internet connection, and goods that you buy to resell as part of your business, for example.
For tax purposes, you are only allowed to deduct revenue expenditure from your revenue when you calculate your taxable profit.
Why? Because capital expenditure is different: when you buy a £5000 computer, you still have that £5000 worth of value in the business, only in computer form rather than cash form. It's not a normal day-to-day expenditure. You've not actually lost any money by buying that computer.
Of course, we all know that things like computers and cars depreciate in value. Ignoring the taxman for a moment, if you were just preparing your own annual accounts internally, you would estimate how much your computer has depreciated in value in the year, and write that down as the cost of depreciation. From an accounting point of view, you should think of it as here that your company actually loses money, year by year, rather than your company losing £5000 in one go at the moment where you buy the computer.
Now, the taxman does let you deduct the cost of this depreciation. But, since estimating depreciation is a fuzzy art, they don't let people just make up their own depreciation figures. Instead, they have a system called 'capital allowances', which specifies the percentage you're allowed to write off each year.
(As an aside, they sometimes use capital allowances to encourage certain kinds of spending. For instance, a few years ago you used to be able to write off 100% of the cost of computer equipment in the first year, because they wanted to encourage businesses to get techy. Now there is no such scheme, unfortunately.)
There are different rules for small business vs. medium business, etc., so you'll have to dig a bit to find out what scheme applies to you. Here's a introductory page on the Business Link web site about capital allowances for plant and machinery.
With regard to the fact that the computer will be used partly by your business and partly personally, all you do is estimate what proportion the computer will be used for each purpose, and then for your business's capital allowances you treat the computer as if it had cost that proportion of its true cost. So, if you reckon your use will be split 60% business and 40% personal, then for capital allowances purposes you treat the the computer as if it had cost 60% x £5000 = £3000.
(You'll have to do the same apportioning for the purposes of claiming back VAT on the computer, assuming that you're VAT-registered.)
posted by chrismear at 5:02 AM on June 16, 2007
This form (IR222) (starting on page 6) suggests that your capital allowances will be 40% in the first year, followed by 25% of the remaining value in subsequent years. There are also a few worked examples which will probably help you understand this.
posted by chrismear at 5:16 AM on June 16, 2007
posted by chrismear at 5:16 AM on June 16, 2007
Sorry, 50% in the first year for small businesses. This stuff is complicated!
posted by chrismear at 5:16 AM on June 16, 2007
posted by chrismear at 5:16 AM on June 16, 2007
I can't speak to your specific tax questions, but some years ago I filed taxes in the UK as a self-employed translator.
I ended up using an accountant for a one-off consultation every year where she set me in order for the few different largeish jobs I'd do in the year. She was also able to spread the earnings out over different tax years and get deductions for costs like this.
In the end I saved more than her fee every time I used her, and even ended up with a rebate on PAYE tax paid the year I went slef-employed. I would strongly suggest asking friends for recommendations of a good accountant if you don't have one already.
posted by Abiezer at 5:23 AM on June 16, 2007
I ended up using an accountant for a one-off consultation every year where she set me in order for the few different largeish jobs I'd do in the year. She was also able to spread the earnings out over different tax years and get deductions for costs like this.
In the end I saved more than her fee every time I used her, and even ended up with a rebate on PAYE tax paid the year I went slef-employed. I would strongly suggest asking friends for recommendations of a good accountant if you don't have one already.
posted by Abiezer at 5:23 AM on June 16, 2007
I may potentially have a large job coming in paying about 5x what I would normally make for the whole year - I know theres going to be a huge tax bill on that this year but my question is - do I need to save most of it to pay my tax bill for the next year then wait for a rebate a year later or will the fact I've only been in business a few months mean I wont get an estimated bill for a couple of years?
I might be completely out of the loop on this, but I don't think there is any 'estimated tax bill'. At the end of this tax year (2007/2008), you will simply fill in a self-assessment tax return, where you will have to state the profit that your business made in that year. You are then liable for income tax on that profit. So, if you make a huge amount of money this year, then you're liable for tax on it.
As I understand it, there's no way to 'offset' this year's profit against future low income or losses. (The only thing you can do is set past years' losses against this year's profit.)
However, in pure practical terms you might not actually have to pay this tax for a while. The current tax year ends in April 2008; the deadline for submitting your tax return for that year is something like December 2008 or January 2009, and then you make your payments after that.
Like I say, I might be wrong on this one, because my first-hand experience is with corporation taxes and doing self-assessment as an employee, not with doing self-assessment as a self-employed person. But, if you're not planning on getting an accountant's advice, it would probably be safer to assume that all of the tax on this year's extra-large income will turn up in this tax year, and to put aside the appropriate amount accordingly. As Abiezer says, though, it's probably worth talking to someone who's familiar with this.
posted by chrismear at 5:26 AM on June 16, 2007
I might be completely out of the loop on this, but I don't think there is any 'estimated tax bill'. At the end of this tax year (2007/2008), you will simply fill in a self-assessment tax return, where you will have to state the profit that your business made in that year. You are then liable for income tax on that profit. So, if you make a huge amount of money this year, then you're liable for tax on it.
As I understand it, there's no way to 'offset' this year's profit against future low income or losses. (The only thing you can do is set past years' losses against this year's profit.)
However, in pure practical terms you might not actually have to pay this tax for a while. The current tax year ends in April 2008; the deadline for submitting your tax return for that year is something like December 2008 or January 2009, and then you make your payments after that.
Like I say, I might be wrong on this one, because my first-hand experience is with corporation taxes and doing self-assessment as an employee, not with doing self-assessment as a self-employed person. But, if you're not planning on getting an accountant's advice, it would probably be safer to assume that all of the tax on this year's extra-large income will turn up in this tax year, and to put aside the appropriate amount accordingly. As Abiezer says, though, it's probably worth talking to someone who's familiar with this.
posted by chrismear at 5:26 AM on June 16, 2007
Response by poster: I'm not trying to get out of paying the tax on it but I thought I read that taxes were based on your previous years income until you submited your return or something - a bit like how when you're PAYE they assume the income you make in 1 month is the same every month, so if you have a good month you pay loads of tax then have it rebated the next month when your wage goes back to normal. Once I've got the money and paid the tax on it I want to spend it not sit on it to pay off the next tax bill and then wait for a rebate.
posted by missmagenta at 5:39 AM on June 16, 2007
posted by missmagenta at 5:39 AM on June 16, 2007
Oh, I know you're not trying to get out of paying the tax. I'm just saying that it might not be possible to spread it out as you'd like.
As far as I understand it, you only pay your income tax after you've submitted that first self-assessment tax return. So over the course of 2009, you'll just get three bills that cover the income tax from the 2007/2008 tax year. Until then, you won't be paying any income tax at all. So it's your responsibility to sit on that money until the tax becomes payable.
posted by chrismear at 5:49 AM on June 16, 2007
As far as I understand it, you only pay your income tax after you've submitted that first self-assessment tax return. So over the course of 2009, you'll just get three bills that cover the income tax from the 2007/2008 tax year. Until then, you won't be paying any income tax at all. So it's your responsibility to sit on that money until the tax becomes payable.
posted by chrismear at 5:49 AM on June 16, 2007
Although I am not in the UK, I think that Chrismear has a natural gift for explaining these financial things in understandable terms.
posted by megatherium at 5:51 AM on June 16, 2007
posted by megatherium at 5:51 AM on June 16, 2007
taxes were based on your previous years income until you submited your return
When they say this, they're talking about the next tax year, 2008/2009. (And subsequent years after that.)
For your first year in business, they've got nothing to go on, so you literally don't pay anything until 2009. Then, you'll pay half of the tax in January, and the other half in July.
Unfortunately, you'll actually be paying a bit more than that, since the two payments you make during the calendar year 2009 will not only cover the income tax you've already assessed from the tax year 2007/2008; they will also include a proportion of the estimated tax for the tax year 2008/2009. This is the "based on your previous year's income until you've submitted your return" bit.
In late 2009, you'll complete your assessment for the tax year 2008/2009, and find out the true income tax you're liable for in 2008/2009. You should find that you get a repayment in January 2010, because they'll have overestimated your tax for 2008/2009, since you had such a unusually good year in 2007/2008.
It's mad, isn't it?
There may be a clever way to get around the "pay-lots-and-then-get-a-repayment" situation, but you'll have to talk to an accountant to find out.
Again, I must emphasise I don't have firsthand experience with this method of collecting taxes (which is peculiar to the self-employed), but I did read up on it when I was setting up my business.
posted by chrismear at 6:12 AM on June 16, 2007
When they say this, they're talking about the next tax year, 2008/2009. (And subsequent years after that.)
For your first year in business, they've got nothing to go on, so you literally don't pay anything until 2009. Then, you'll pay half of the tax in January, and the other half in July.
Unfortunately, you'll actually be paying a bit more than that, since the two payments you make during the calendar year 2009 will not only cover the income tax you've already assessed from the tax year 2007/2008; they will also include a proportion of the estimated tax for the tax year 2008/2009. This is the "based on your previous year's income until you've submitted your return" bit.
In late 2009, you'll complete your assessment for the tax year 2008/2009, and find out the true income tax you're liable for in 2008/2009. You should find that you get a repayment in January 2010, because they'll have overestimated your tax for 2008/2009, since you had such a unusually good year in 2007/2008.
It's mad, isn't it?
There may be a clever way to get around the "pay-lots-and-then-get-a-repayment" situation, but you'll have to talk to an accountant to find out.
Again, I must emphasise I don't have firsthand experience with this method of collecting taxes (which is peculiar to the self-employed), but I did read up on it when I was setting up my business.
posted by chrismear at 6:12 AM on June 16, 2007
By 'clever way', I basically mean making an appeal that says, "hey, I'm actually not making as much in 2008/2009 as you think I am", which, if successful, will reduce your "payments on account" for the 2008/2009 tax year which you're making during 2009. But that's just the 2008/2009 tax. As far as I know, there is no way around the fact that your large tax bill for your huge income in 2007/2008 will simply have to be paid in two large instalments in 2009.
posted by chrismear at 6:26 AM on June 16, 2007
posted by chrismear at 6:26 AM on June 16, 2007
Chrismear is absolutely right about the complex system of payment "on account" - i.e. paying a chunk of estimated tax for the subsequent financial year in the current one.
I've recently stopped being self employed, but HMRC still want a not insubstantial amount of money from me on account. Just before the end of the last tax year, I had to hand over £800, despite now being employed full-time and paying tax via PAYE. Ridiculously, about a fortnight after I paid, they sent me a statement saying I'd overpaid by almost the same amount. So I claimed a rebate, and they sent me a cheque. Of course, when the next payment on account period comes round, they'll probably ask me for more again.
It's incredibly frustrating, and it's little wonder that so many small businesses either go belly-up in their first couple of years, or opt to work in the black economy.
posted by coach_mcguirk at 9:35 AM on June 16, 2007
I've recently stopped being self employed, but HMRC still want a not insubstantial amount of money from me on account. Just before the end of the last tax year, I had to hand over £800, despite now being employed full-time and paying tax via PAYE. Ridiculously, about a fortnight after I paid, they sent me a statement saying I'd overpaid by almost the same amount. So I claimed a rebate, and they sent me a cheque. Of course, when the next payment on account period comes round, they'll probably ask me for more again.
It's incredibly frustrating, and it's little wonder that so many small businesses either go belly-up in their first couple of years, or opt to work in the black economy.
posted by coach_mcguirk at 9:35 AM on June 16, 2007
Get an accountant - A good one will save you much more than they cost.
posted by Dub at 5:48 PM on June 16, 2007
posted by Dub at 5:48 PM on June 16, 2007
This thread is closed to new comments.
posted by grouse at 3:44 AM on June 16, 2007