tax planning

Capital Allowances

Small businesses can now claim tax relief in the year of purchase for 50% of the cost of plant and machinery, rather than 40%. This increased first year capital allowance is only available for a period of one year, which will end on 31 March 2005 for companies, and on 5 April 2005 for sole traders and partnerships. Medium-sized businesses remain entitled to the 40% first year allowance.

A business counts as small for capital allowance purposes if it meets at least two of the following conditions:

Not more than 50 employees.
Turnover not more than £5.6 million.
Balance sheet assets not more than £2.8 million

To count as medium-sized, the limits for enterprises are 250 employees, turnover £22.8 million and balance sheet assets £11.4 million. If a company is part of a group, the group itself must fall within the limits.

Companies versus sole trader and partnership vehicles

You can still save tax and national insurance contributions by running a small business through a company rather than as a sole trader or a partnership — despite the Budget changes. Previously, a company making a profit of £15,000 paid virtually no tax, compared to nearly £3,000 in tax and national insurance contributions payable by a self-employed individual on the same level of profits.
As a result of the action taken in the Budget to subject distributions from a company to a minimum of 19% corporation tax, a company with a profit of £15,000 will have to pay corporation tax of about £1,650. The plan would be to pay the director a salary of £4,745 (equal to the tax-free personal allowance), and then to pay out the balance of the profits (after allowing for corporation tax) as a dividend. So there is still a saving at this level of profit, but only about £1,300. If your company now seems more of a burden than a benefit, it could be fairly straightforward to abandon it and resume self-employment. However you should seek our advice so that we can help you make the change smoothly and avoid any unexpected tax liabilities.
At higher levels of profit, the new tax rules bite less hard, and incorporation still makes a lot of sense. A company with a profit of £35,000, out of which it pays the owner-director a salary of £4,745 and the balance as dividends, will now pay corporation tax of £5,575 compared to £4,841 for last year, an increase of £734. A self-employed individual making £35,000 would pay tax and NIC of £8,711. Therefore, at this level of profit you can still save over £3,000 by incorporating, and even more if some profits are left in the company.
The Budget also made it harder to reduce the overall tax liability by paying dividends to a husband or wife who is not involved in the business. Last year the Inland Revenue started using complex anti-avoidance legislation under which dividends paid to a non-working spouse can be taxed as income of the other spouse. The Budget has closed a means of diverting income to a non-working spouse using jointly owned shares to bypass the anti-avoidance legislation. The Inland Revenue can be expected to continue to attack payments to spouses that it considers have no commercial basis.